Between 2018 and 2022, nearly ten million homeowners will tap into a home equity line of credit for a financial boost.
What do these people know that you don’t?
Read on for everything you need to know about the amazing borrowing power you already have if you are a homeowner.
Harnessing Your Home’s Value
Homeowners can borrow against the equity in their homes and use the cash for any number of reasons from home remodeling or repairs to consolidating debts or even dream vacations.
Home equity, also known as real property value, is the difference between what is still owed on your home’s mortgage and how much the home’s market value is. For instance, if your home is estimated to be worth $200,000 and you owe $150,000 on your mortgage, your home’s equity is $50,000.
For homeowners, there are two ways to cash in on the equity of your home. Each one has its advantage.
Home Equity Loan
A home equity loan is closest to a traditional loan. With a home equity loan, you receive all funds from the loan in a lump sum. This type of transaction is a great choice for a single, large purchase.
Home equity loans will have a fixed interest rate, meaning your payments will not change throughout the term of the loan.
Home Equity Line of Credit (HELOC)
A HELOC is a flexible line of credit, similar to a credit card. This option is a great way to pay for recurring things such as home repairs and improvement. Like a credit card, you can continue to tap into the HELOC as long as you have credit available.
A home equity line of credit is more flexible than a fixed home loan. For instance:
- Banks may allow you to convert the HELOC to a fixed loan.
- You may be given the option for “interest-only” payments.
- Your rates for a HELOC may be lower than for a fixed home equity loan.
- You only pay interest on the amount of money you have borrowed on your HELOC.
- It offers an immediate line of credit for the borrower whenever it is needed.
A HELOC may feature an adjustable interest rate, meaning that your payments can increase or decrease monthly.
Applying for your Home Equity Line of Credit
Each bank offers different qualifications for a homeowner to borrow against the equity of their home. The things banks generally look at to qualify an applicant are:
Generally speaking, credit scores are usually required to be in the “good” category – 680 or above. Those with a lower score may qualify, but they will pay higher interest rates.
Using a free service to get an understanding of your score is a great way to see where your credit stands. They are not always accurate, however, and it isn’t uncommon for your real score to be much higher or lower than the free site estimates it to be. Free sites are best used to help you clean up your credit and see if you have negative items or errors that are lowering your scores.
Banks will use three scores provided, Transunion, Equifax, and Experian. All three of these scores will be different. Underwriters will usually take the middle score and use that as the qualifying score for your loan.
Debt to Income Ratio
Your debt to income ratio, or DTI, is how much debt you have compared to how much money you bring in each month.
DTI is calculated by dividing total bills by your gross monthly income. Debts that the lenders look for are credit card payments, mortgage amounts, and outstanding loans.
Lenders generally look for low DTI, mostly below 40%. If you have a lot of debt, you may receive a home equity line of credit or loan, but you will pay higher interest rates on the funds. The average credit line offered will be lower if your DTI is too high.
Before applying for your HELOC, pay off credit cards or consolidate your debt so your monthly payments are smaller.
Home Loan to Value Ratio
Banks will compare how much your home is worth against how much you are borrowing. This is called the Loan to Value ratio. Most lenders do not like to lend above 85% of your total home’s value, including your home’s first mortgage.
If your Loan to Value Ratio is too high, you will pay higher interest rates on the loan.
Your home’s value will be assessed with a HELOC appraisal. These appraisals are performed by unbiased third party professionals. A HELOC appraisal will take into account the value of your land and your home as well as the values of other homes in your area.
Many people use free property value sites to get a basic understanding of their home’s value. Similar to free credit score sites, these property value sites are a good place to get a basic idea of your home’s value, but your HELOC appraisal may come in higher or lower than these online estimates.
In the initial stages of your loan application, your loan officer will probably rely on these sites for a ballpark estimate of your home’s value, too. Once your application is ready to move forward, the financial institution will usually schedule an in-person appraisal.
Your HELOC approval may also rely on factors such as length of employment, education level, and length of time living in the home.
Not all HELOC lenders will use all types of income to qualify you. Some lenders may not consider part-time work or self-employment as a steady income unless you have been working for two years or greater at the job. It’s important to understand what your lender is looking for when qualifying your income.
Do You Qualify for a Home Equity Line of Credit?
Lenders can be very flexible when it comes to approving a home equity line of credit. Many times, a call to a lender’s loan office is a great place to get started. Loan officers are familiar with the qualifications needed to get a loan with their financial institution and how flexible these qualifications may be.
Ready to start the process? Fill out our simple online loan application today.