Home equity loan is the loan that is available to you against the equity on a property. A type of consumer debt, home equity loan is also known as an equity loan, a second mortgage or a home-equity installment loan. It can be availed for any purpose and is available against both residential and non-residential property. The loan amount is calculated on the basis of the current market value of the property.
In order to avail a home equity loan, you need to make sure that you have an excellent credit history, reasonable loan-to-value and combined loan-to-value ratios.
There are two types of home equity loans. They are:
Fixed rate loans provide a single lump-sum payment to the individual. The amount can be repaid over a set period at the agreed upon interest rate. The interest rate does not fluctuate depending on market conditions and remains the same over the lifetime of the loan.
Home Equity Line of Credit (HELOC) is a variable-rate loan which works similar to how a credit card works. Known as HELOC, this type of home equity loan allows you to borrow a part of the pre-approved amount offered by the bank. The loan may be offered as a bundled package with a credit card allowing you to make withdrawals on the loan or through cheques.
Monthly payments will depend on the amount borrowed and the interest rate. Like a credit card, you can re-borrow the amount repaid. HELOC has a set term like fixed-rate loans. This means that at the end of the loan tenure, the complete outstanding amount has to be settled.
A home equity loan works similar to a home loan. In both cases, the home serves as collateral. However, for a home loan, the eligible loan amount is up to 90% of the market value of the house. Whereas, with a home equity loan, you convert the equity on your home into cash. Repayment will include principal and interest payments.
|Factors||Home Equity loan||Home Equity line of credit (HELOC)|
|Disbursement||Lump-sum amount||Revolving credit line for a pre-approved amount|
|Repayment||Monthly payments||Interest only payments|
|Availability||Easily available in India||Not very common in India|
Home equity loans are disbursed by lenders after considering the equity of the house. Home equity, in simple terms, is the difference between the value of the home and the liabilities payable towards the home. The formula, therefore, is:
Equity = Current value of the house – the total outstanding amount payable towards the loan
For example, if you have purchased a house worth Rs.50 lakh and have taken a loan for Rs.40 lakh, then the current equity of your house will be Rs.10 lakh. Breaking it down,
Value of the house (50,00,000) – Total loan payable (40,00,000) = Equity (10,000)
In a few years, let us assume that the value of the house has increased to Rs.75 lakh and you have paid off half of your loan. You are now left with only Rs.20 lakh in loan payments while the value of the house has increased. Therefore, the equity of the house will also increase in this case. The equity of the house will now be:
Current value of the house (75,00,000) – Total loan payable (20,00,000) = Equity (55,00,000)
As showcased above, the equity of the house varies from time to time. In theory, the equity of a house can reduce as well. If the market for real estate drops drastically in a certain area, so will the value of a house in that locality. This will in turn adversely affect your house’s equity.
Note: If the home you own have no loan obligations, then the equity will be based on the market value of the house.
You can use a home equity loan for any personal reasons from taking a vacation to paying your medical bills, covering your child’s tuition expenses, planning your wedding, and so on. It does not have to be related to covering expenses for your home.
This will depend on the market value of the house and if you have any loan obligations to fulfill towards the property.
No. To apply for this loan, your house will be used as collateral because the loan amount will depend on your home’s market value. However, you can consider a secured personal loan if you wish to use another collateral.
No. There are no tax benefits available for this loan. Tax benefits are only available on the principal and interest components of a home loan.
No, it is not necessary to have a good credit score for availing a home equity loan as the loan is offered against the equity of your home. However, if you default on your loan, you could lose your home as your lender will possess your property to recover their loss.
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