Home Equity Line of Credit vs Personal Loan

HELOC vs Personal Loan

Coming up with the funding for a major purchase or project can be challenging if you don’t have the cash on-hand. Luckily, personal loans or a home equity line of credit (HELOC) can make financing those large purchases possible.

Deciding between a home equity loan or a personal loan takes some thought, though, since the two options are quite different. Not only are the qualifications different, but there are also certain circumstances that are better suited for each option.To figure out which funding source is right for you, it’s important to understand the differences between a HELOC, home equity loan and a personal loan. Let’s take a look.

What is a HELOC?

In order to qualify for a HELOC, you must be a homeowner and have equity in your property, which means that your home is worth more than you owe on it. With this type of loan, you’ll have access to a revolving credit line that you can draw from if you need it, and you only pay back what you borrow.

Lenders will allow you to borrow up to a certain percentage of your home equity with a HELOC. If, for example, the amount left on your mortgage is $300,000, but your home is valued at $350,000, then your current equity would be $50,000. The typical HELOC loan is for 80% of that amount, which in this case would qualify you for a $40,000 line of credit. That means you’d have ongoing access to $40,000 of credit should you need it, but you can also draw from it for smaller projects in lower increments, too. However, interest rates are variable so if overall rates increase, your payment amount will as well.

What Is a Personal Loan?

A personal loan is typically an unsecured loan that allows you to borrow a lump sum of money without using any of your assets as collateral, though there are times when a personal loan is secured by your property, like your house or car. You pay back the loan by making monthly payments for a predetermined period of time. In addition to repaying the principal balance, each payment will include interest, which is calculated at the rate determined for your loan. Some lenders also charge an origination fee that is deducted from your loan funds before you receive them. Typically, the fee ranges between 1% and 8% of your loan amount.

Both your interest rate and your loan amount are based on the information in your personal loan application. Your lender considers your credit score, income and debt-to-income ratio before extending a loan offer. Online lenders make it quick and easy to apply, and you can get funded within a few days (or sometimes less), which makes personal loans a good option for time-sensitive expenses.

A HELOC isn’t a Home Equity Loan

Be sure that you understand the difference between a home equity line of credit and a home equity loan, though, because there are big differences between the two.

With a HELOC, you gain access to a revolving credit line with a variable interest rate that you draw on as needed, and you only pay interest on the amount you actually use. It’s great for home renovation projects or major events, like a wedding, where a large sum of cash will be necessary.

With a home equity loan, also called a second mortgage, you receive a lump sum just as you would with a personal loan, but you’re using your house as collateral, so interest rates are usually much lower than personal loans. Unlike a HELOC, home equity loans almost always come with fixed rates.

Which Is Better? A Personal Loan or a HELOC?

Choosing between a HELOC and a personal loan will depend on your circumstances. Only homeowners can qualify for a HELOC or a home equity loan, so if you’re not a homeowner you can’t get a HELOC. It’s also important to remember that you’ll be putting your home at risk if you fall behind on your payments. On the other hand, you can save money on interest by taking advantage of competitive HELOC rates.

On the other hand, anyone can apply for a personal loan. The approval process is also usually quicker because you don’t have to confirm your home value, and if you opt for an unsecured loan, the higher interest rate is offset by the fact that none of your personal belongings are used as collateral.

How to Choose a Personal Loan Provider

When comparing personal loan providers, narrow your list by choosing the ones that work with borrowers in your credit profile. This saves you time and avoids adding too many inquiries on your credit report. While personal loans can typically be used for almost any purpose, some lenders do offer certain loans for specific  reasons, such as debt consolidation loans or home improvement loans. You’ll also find that different lenders offer different loan amounts. If you know how much you want to borrow, focus on lenders that work in that range.

Once you’ve narrowed down the list, submit an application to your top choices. Most online lenders respond with an approval and a loan offer within minutes. Compare your options and find the best personal loan to match your budget and timeline.

How to Choose a HELOC Provider

When you want to tap into your home equity to fund a purchase or expense, don’t rush through the vetting process. Take your time to find the best lender and make sure you’re getting the best terms that make sense for you. In addition to comparing interest rates, also look at how long the funding process takes, especially if you need the money by a certain time.

Next, consider how the lender determines the value of your home. Do you have to pay for a third-party appraiser? If so, that could cost a minimum of a few hundred dollars, not to mention take a few weeks to complete from start to finish. Once you have a clear picture of how the process works, you’re ready to start applying.

The Bottom Line

As with any financing decision, it’s smart to weigh all of your options before taking the plunge. Deciding between a HELOC and a personal loan involves weighing two very different structures of funding and repayment.

When exploring a HELOC or home equity loan, you should also pay ongoing attention to your local real estate market before applying and after receiving your funds. If the home prices are trending downward in your market, tread carefully. If you take out a loan against your home in a downward spiraling market, you could end up owing more on your house than it’s worth should you need to sell it. So, make sure to stay on top of how much remaining equity you have, and whether that’s growing or diminishing with current market trends.

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