Many homeowners decide to take equity which is built up in their biggest asset, their home and put it to work for them. As your home will be on the line, you may need to carefully analyze and evaluate before you tap into these funds either by home equity line of credit (HELOC) or by home equity loan (HEL). These are broadly two methods used to tap your home equity funds. The risks like crushing debt and foreclosure have made securing a home equity line of credit more difficult. In order to qualify for it you are encouraged to know the financial requirements that many lenders consider critical and essential and also understand the difference between the two.

Let’s first consider the difference between HELOC and HEL and weigh in the pros and cons and decide when you should opt one over the other.

Home equity loan is, at heart, a second mortgage; basically a revolving credit in which your home serves as collateral. You will be given an approval for a specific amount of credit to be received in lump sum at a fixed rate of interest that’s locked in when you procure the loan, sized to be paid off over the defined time limit. Home equity line of credit (HELOC) does not have a fixed interest rate. Instead it has an adjustable rate of interest. The interest rate is typically tethered to the changes in the prime rate of the line of credit. Lenders typically determine the amount by taking a percentage of your home’s appraised value and subtracting the amount you still owe on the mortgage. As the house is not held as collateral, lenders consider few factors such as your credit history, debt load, and income. The lender then gives you a set of blank checks or a credit card that you can use to withdraw funds.

Now let us first consider the pros of the HEL and HELOC.

In case of HEL, the interest rate is fixed, which would mean no shocking increase later. HELOC on the other hand has a variable rate of interest but may be still lower than any other form of consumer credit. The interest on your HEL may be tax deductible but a thorough read of IRS publication 936 will make it clear as to the degree to which you are eligible. The interest on HELOC may also be tax deductible just like HEL but you can consult IRS 936 for confirmation of what applies in your case.

And finally, let’s understand the cons of HEL and HELOC. In case of HEL you borrow the whole amount and owe interest on the whole rather than simply borrow what you need. Therefore in case of non-payments you are at a risk of losing your home. Further according to your loan terms you may be prohibited from renting your home. On the other hand a HELOC typically has variable interest rates tied to the prime rate, so you could end up with a much higher balance owed than anticipated. As there is easy access to funds it is important to resist yourself from using the funds for other purposes than the planned one.

As we differentiate between the two and see the pros and cons, knowing the purpose of using your equity will help you to choose between HEL and HELOC. HELOCs can be used as emergency funds in the event of a crisis like losing your job or medical bills and you can use it on an ongoing basis whereas HEL can be used for home improvement purpose or college tuition. Whatever the purpose of home equity line, if you have the discipline to use the funds for the dedicated purpose and spending on something that’s vital and do not procrastinate or have difficulty with repayments on time, home equity can be a useful strategy to realize your goals.

As you evaluate and conclude on the type of equity line you choose, it is equally important to take this critical decision with right people who will help you to understand better and save more.

Author Bio: Home equity line of credit HELOC home equity line

Category: Finances
Keywords: Home equity line of credit,HELOC,home equity line