Some people don’t believe in getting into any type of debt for any reason. However, there are times when paying of a high interest rate loan with a low interest rate loan just makes sense. A perfect example of this is transferring the balance of a high interest rate credit card to a low interest rate credit card. Another good example is to take out a high interest rate HEL or home equity line of credit to pay off a high interest rate loan.
Now before you make an appointment with the financial advisor at your bank there are a few things you need to understand. The first is the difference between a home equity loan and a home equity line of credit. Once you understand the differences between them you can make an informed decision for your home that best suits your needs.
Home Equity Loan (HEL)
A HELor a home equity loan is actually a second mortgage that is taken out on your home that uses the equity you have accrued in your home as collateral. Usually it is paid out as a lump sum payment with a fixed interest rate. This probably doesn’t make sense to you now until you know what a home equity loan is.
Home equity is the actual market value of your home. The actual market value is considered then any loans that are outstanding are deducted from this amount. Here’s an example, if a home has an actual market value of $200,000 and there’s a mortgage of $125,000 remaining, the home equity of the home would be $75,000.
Home Equity Line of Credit
A HELOC or home equity line of credit is also a second mortgage taken out on your home which taps in to the total equity on your home. The difference between a HEL and a home equity line of credit is that a home equity line of credit does not have a lump sum payment in the beginning. A line of credit is issued and any funds the homeowner needs is taken out of that line of credit with no fixed repayment schedule. The homeowner borrows what they need when they need it and repays the minimum amount plus a little over every month. The APR is flexible and is based on the remaining balance of the line of credit. This type of home loan is similar to credit cards in that the APR is calculated the same way.
A home equity line of credit generally has a lower APR than a home equity loan because of the risky of the interest rate increasing.
Benefits of A Home Equity Loan and A Home Equity Line of Credit
As previously mentioned because of their low interest rates both a HEL and a home equity line of credit are good options. In today’s market their interest rates are lower than consumer loans, personal loans, student loans even car loans. The interest rate of both types of home loans is tax deductible as well. If you are however not in the position to take either of the above or you would rather use other means.