Understanding Home Equity Loans

In order to understand home loans better, you have to be familiar with some of its terms. A collateral is a property that you promise as a guarantee that you will pay a loan back. If you do not get to repay the loan, the lender will get your collateral as payment for your loan. In dealing with home equity loans, it is your home that you put up as collateral. You could lose your house when you do not repay the debt you have with the lender. Another term to note is equity. Equity is simply the difference of how much the home is worth and how much you owe the lender on the mortgage for the property. Taking equity loans is a tricky affair since it is a second mortgage on your house using the equity in it in exchange for cash that you may use for expenses like home improvements, debt consolidation, education, etc.

You can borrow against the equity of your home in two ways: home equity loans and home equity lines of credit, otherwise known as HELOCs. Both loans are second mortgages on your home, meaning that if you go into debt, the sale of your property or whatever assets you have will be used to pay your primary mortgage and any extra funds will now go to pay off your second mortgage.

Usually these types of loans are repaid in a shorter time as compared to the first mortgage you took. Primary mortgages often have to be repaid in 30 years while equity loans and lines of credit are to be paid in 15 years, though there are terms that will allow you to pay it in as short as five years or extending up to 30 years like regular mortgages.

The difference between a home equity loan and a home equity line of credit is as follows: A home equity loan is given to you in a one-time lump sum and you are to repay it in fixed monthly installment, including interest, for a specified period of time. Once you have the money in your hands, you will no longer have the option to borrow against the equity of your home. A home equity line of credit is more like a credit card because you can borrow amounts at different times during the specified time frame of the loan. This is very ideal if you want to make minor cash advances on the equity of your home for emergency purposes. And when you do pay the principal of the loan, you can borrow from it again.

In comparison, a line of credit does give you more flexibility than a fixed-rate home loan as the interest in line of credit fluctuates over time so you can avail of lower interest rates in the future, market permitting.

However, when you want to sell the house, with both types of loans, you have to pay the existing debt before doing so and moving out of the house.