Otherwise referred to as a second mortgage, a home equity loan enables homeowners to borrow money off of the equity they have in their homes. This financial instrument became quite popular in the mid-1990s. During that period of time tax changes occurred that removed the ability to deduct the interest on many consumer purchases. Home equity loans enable homeowners to borrow as much as $100,000 and still have the ability to deduct all of their interest at tax time. Let’s review some features and benefits of these loans.
Two Types of Home Equity Loans
There are two types of home equity loans – lines of credit and fixed-rate loans. In general, you can obtain these loans with terms that range from five to 15 years. If the home on which the money is borrowed is sold, the loan must be paid back in full.
Lines of Credit
Referred to as a home equity line of credit (HELOC), this variable rate loan works like a credit card. As a borrower, you may be preapproved for a specific spending limit which you may use by withdrawing money whenever you need it through a check or credit card. The monthly payments will be based on the current interest rate and the amount of money borrowed. These loans have a set term. At the end of the term the loan must be fully repaid.
Fixed-Rate Loans
This type of home-equity loan involves the repayment of a lump sum over a determined period of time at a set interest rate which does not vary for the life of the loan.
Benefits to You, the Consumer
You can obtain a convenient source of cash with home equity loans. The interest rate on these loans is considerably lower than interest rate on other consumer loans or credit cards. One of the top reasons why consumers borrow against the value of their home through a fixed rate home equity loan is to pay down credit card balances. As mentioned earlier, you may also deduct the interest paid on these loans for tax purposes.
In summary, these loans provide a convenient way to consolidate debt with a single monthly payment at a low interest rate while also enjoying tax deduction benefits.
