About Home Equity Loan Interest Rates

By Brian Nelson

  • Overview

    Recent changes in the mortgage loan marketplace have led to many questions from potential homeowners. However, while underwriting standards may have changed, the basic concepts behind these loans remain mostly the same. A home equity loan is a loan collateralized by a second-position lien on real estate property.
  • Types

    There are typically two types of real estate-backed loans that use equity as collateral. One type is the home equity line of credit. This type of loan functions as a revolving line of credit, meaning that the borrower may, at any time, borrow up to the full amount of the credit line, or any lesser amount. The second type is a home equity loan, which is an amortized loan in which the borrower receives the full proceeds at the loan's inception and then makes regular payments until the balance is paid off.
  • Significance

    Home equity loans provide for a way to access a borrower's net worth that is trapped inside his home or other real estate. Since getting the positive equity out of a property would require selling it, a home equity loan provides a reasonable alternative for borrowers who do not want to sell their property.

  • Features

    Typically, a true home equity loan has a fixed interest rate. However, banks and customers have blurred the distinction between HELOCs and home equity loans. Since foreknowledge of the interest rate is necessary to calculate an amortized payment amount, the rate structure is set in the contract of the home equity loan.
  • Size

    There is no legal requirement for how much a home's equity may be used to secure a home equity loan, but any loan amount above 100% of a home's value affects the loan's interest deductible. The typical standard for a home equity loan is for an amount up to 80% of the home's value when combined with the first mortgage. However, many lenders have products that address the need for customers to have a greater loan amount.
  • Benefits

    Home equity loans are generally available at a lower interest rate than other non-secured loans. Additionally, the interest paid on a home equity loan is usually tax-deductible. Each year, the lender will provide a form which indicates how much interest was paid on the loan for the year. That amount can be deducted from the taxpayer's income. Filers with over $1 million in total mortgages may be subject to limits on the deduction.
  • Warning

    A home equity loan is secured by a real estate property. Often, this is the borrower's home. Failure to repay the home equity loan can result in the home owner losing their home, so it is important to use such loans wisely.
  • Potential

    Although home equity loans generally have fixed interest rates, the going rate for home equity loan's are usually tied to a large rate index such as the PRIME rate. A borrower with perfect credit might be able to get a rate from slightly below to slightly above PRIME. A borrower with normal to high credit could expect a rate between PRIME + 0.25% and PRIME + 1.0%, while a borrower with below average credit could expect rates even higher rates.
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