Financing investments with home equity has become a popular trend in recent years. With home prices at high levels and the economy continuing to perform well, homeowners across the country are seeing considerable gains in equity. Lenders have responded to this growing shift and the market for home equity loans has become competitive. This is good for homeowners as requirements for the loan become more lenient and interest rates are lowered to attract new customers.A home equity line of credit, or HELOC, is a type of mortgage loan that allows homeowners to use equity as collateral. Similar to a credit card, homeowners can borrow up to a fixed amount as long as they don’t exceed the credit limit. The loan term is typically determined at the time of approval and borrowers are able to withdraw from the credit line during the life of the loan.A HELOC only requires you to pay interest on the amount you borrow and is often eligible for tax deductions. The interest is usually set at an adjustable rate to minimize the risk for lenders.How is Home Equity Determined?Home equity is measured by subtracting your mortgage balance from your home’s value. As you pay off your home mortgage and your property value increases, then home equity will rise. If the value of the property has depreciated, then equity may also diminish.For example, if you purchased a home for $225,000 and have paid $75,000 of the mortgage, then your remaining balance is $150,000. If your property is estimated at $250,000 at the time of the loan, then your maximum available home equity will be calculated as $100,000.It is possible to build equity in your home if you make home improvements or renovations. If you refinance your mortgage for a 15-year loan over a 30-year, then you will also see equity build quicker as you pay off the original mortgage in nearly half the time.Other factors that influence property value include the location of your home, local economic growth, and the performance of the national economy. These can all contribute large gains in home equity and is best understood by looking at appreciation in home prices in the past several years.HELOC vs Home Equity LoanThe main difference between a home equity line of credit and a home equity loan, is how you access the line of credit. A home equity loan, or second mortgage, is provided as a lump sum while a HELOC is an open-ended source of money. Home equity loans are set with a fixed interest rate and for a pre-determined amount of time. Credit from a HELOC can be accessed at any time as long as the limit amount isn’t surpassed.Applying for a HELOC does have initial charges such as application fees, point charges, and appraisal fees. Also, there may be additional closing costs and transaction fees. Be sure to ask your lender if any or all apply.Using Equity to InvestUsing home equity for investment property does have its risks. If you are financially stable and won’t rely on investment returns to cover your first mortgage, then you’re in a good position to take out a HELOC. Many homeowners and investors have used this strategy to pick-up foreclosures and auction sales; and the market is strong enough for you to earn extra income off property investing. However, if you are unable to meet your home equity loan requirements, you do risk losing your home and this can be an unforgiving loss. Before applying, consider advising your financial consultant to decide if a home equity line of credit is right for your situation.
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