For homeowners looking to borrow money, home equity loans are one of the best ways to access capital without having to worry about high-interest rates or risky unsecured forms of debt like payday loans.
But what are the best ways to use a home equity loan, and how should homeowners go about finding a lender? And how do home equity loans work in the first place?
A home equity loan can be a powerful financial tool, but a home equity loan that is used incorrectly can create significant financial problems — in some cases, it can even mean losing your home. This is why it is so important to be smart about how you apply for a home equity loan and what you use it to fund.
Understanding Home Equity Loans
A home equity loan is essentially a loan that leverages property value to secure a lump-sum cash payment that will be repaid over a set period at an agreed-upon interest rate.
Unlike other types of debt, like a line of credit from a bank or a student loan from the government, a home equity loan is secure. You are putting up an asset, which can help you get a significantly lower interest rate from the lender (it also means that even people who have a hard time borrowing money due to poor credit scores can usually get a home equity loan through a mortgage broker).
In this case, the asset you are putting up is your home equity — the amount of value you own in your home is usually calculated as the current market value minus the outstanding mortgage.
Because a home equity loan is an additional loan on top of your existing mortgage, is often referred to as a second mortgage. If you default on the loan, the lender can pursue legal options to take your home through repossession or power of sale, which is why homeowners have to be careful about how they use these loans.
The Best Ways to Use a Home Equity Loan
Technically, a home equity loan can be used for anything. But most financial experts agree that you should only take on this kind of debt to improve your overall financial position.
For example, many homeowners use home equity loans to consolidate other, higher-interest debts from credit cards, payday loans, or car loans. In this situation, a home equity loan makes sense because it will ultimately save you money and help keep your credit score healthy.
The other main use for this kind of loan is home maintenance. Spending money on refinishing a basement, fixing the plumbing system, or improving energy efficiency is an investment in the property itself, and can help you improve the resale value or keep the house from deteriorating.
A house is the single biggest asset most Canadians or Americans will ever own, and it can provide a huge amount of financial leverage in the event that large sums are needed. A home equity loan can be a lifeline in these situations — so long as it is put to good use.
If you’re interested in finding out how your home equity can be put to work for you, get in touch with a residential mortgage brokerage today to learn more.