Investing in your own home not only makes it more enjoyable for you family, but it also adds value if you should ever decide to sell.
Over the years you have accumulated equity in your home. Equity is the difference between the fair market value of your property and the amount you still owe on the mortgage. A lender will allow you to borrow money against a portion of your equity.
For most lenders, you can typically borrow 75% – 80% of the equity in your home. This is your home's current value minus what remains (you owe) on your first mortgage. This is called the loan-to-value ratio (LTV).
Common Terms:
Home Value: An estimate of the current market value of your home if you were to sell your home today.
Principal due on 1st mortgage: The balance due on your main (principal) mortgage. Your most recent bill from your mortgage lender should indicate the "Principal Due" or the "Amount for Payoff".
Principal due on 2nd mortgage or line of credit: The balance due on your second mortgage or a line of credit. Your most recent bill from your mortgage lender should indicate the "Principal Due" or the "Amount for Payoff".
Total equity in your home: Your financial "ownership" of your home. Equity is the difference between the fair market value of the property and the amount still owed on the mortgage. Equity is the cash left over if you were to sell your home and pay off the mortgage.
TIP! If possible, pay more than the minimum payment each month and continue to put money towards your loan principal so your equity continues to grow.
Know the Differences:
Home Equity Loan, Home Equity Line of Credit, Cash-Out Refinancing
Home Equity Loan (HEL or loan)
A Home Equity Loan is a loan secured by your home. The cost of borrowing money through a home equity loan is typically less than a conventional loan because you are borrowing against secured collateral.
Good For: A major renovation.
Typical Terms:
- Receive money in a lump sum payment.
- Fixed monthly payment.
- Interest rate is often fixed, but may also be offered as a variable rate.
- Interest paid may be tax-deductible (consult a tax professional).
- Payoff during a predetermined time period.
- The amount available to borrow is based on a number of factors including credit history, amount still owed on first mortgage, income, debts, value of your home, etc.
Caution: if you miss payments on a Home Equity Loan the lender could take possession of your home through a foreclosure action.
Home Equity Line of Credit (HELOC or line)
A Home Equity Line of Credit is also a loan secured by your home, but it provides the ability to borrow funds up to a pre-approved limit whenever you need the money.
Good For: Small home renovations over a long period of time.
Typical Terms:
- You are charged interest only on the portion of credit you are currently using, not the entire pre-approved amount.
- It helps keep the cost of borrowing low.
- Interest rates often float and are tied to a market index rate.
- Interest paid may be tax-deductible (consult a tax professional).
- Requires a minimum payment, but allows you to pay off as much as you want.
- Terms may allow an "interest only period", which may let you pay only the interest accrued each month which keeps your minimum payment low. Caution: When an interest-only period ends, you may be required to pay a balloon payment, which is the entire balance. Or your payments on the loan principal may increase substantially.
Caution: if you miss payments on a Home Equity Line of Credit the lender could take possession of your home through a foreclosure action.
Cash-Out Refinancing
Refinancing your mortgage is another alternative to providing extra cash for home improvements. Refinancing means you apply for a new mortgage loan with more favorable terms and use it to pay off your original mortgage loan. In cash-out refinancing, you refinance for a higher amount than your current principal balance. Remember: you will pay interest on the cash-out amount over the entire term of the mortgage.
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