HELOCs Vs. Equity Loans – The Truth

by Margaret Smith on December 23, 2011

Home equity lines of credit are different from equity loans mainly in that borrowers do not get the full amount up front. The sum of money that can be used with a line of credit cannot exceed the credit limit, and this works much like a standard credit card. You can withdraw money from the line of credit until the draw period ends, which is from 5 to 25 years. The amount drawn is to be repaid, plus interest. At the end of the draw period, you should repay the full principal, which can be done in a lump sum or according to an amortization schedule.

Home equity lines of credit have some advantages compared to equity loans. One advantage is that the borrower can repay the credit line at a time of his convenience. If you are paying off a mortgage loan, and the mortgage is not of the open mortgage variety, you will face penalty fees for prepaying it early. Then, the variable rate offered with credit lines is lower than what borrowers get with other financial products. You borrow inexpensive money.

Like home equity loans, the funds can be used for any purpose. However, home equity lines have an added advantage because on paying down the limit, you can access more funds.

At the same time, home equity loans are flexible and desirable lump sum loans for some, featured with low interest rates. They are also beneficial for persons who need considerable amounts of money for medical bills, large-scale projects, and short-term ones.

Home equity lines of credit are also beneficial if a substantial amount of money is required over a long period – to pay college tuition or for something else. Low interest rates are the main advantage home equity lines have over credit cards. The interest rate on home equity lines of credit is lower than the prime rate. Unlike this arrangement, credit cards come with an interest rate of around 18 percent.

As an added benefit, interest applies only to the amount drawn. Thus, no interest rate applies to money, which is sitting idle, unlike other loan types. With them, interest is charged on the whole amount, even if the borrower does not use the money. Finally, home equity lines of credit do not have closing costs. This is beneficial in saving lots of money.

One point to consider is that some lines of credit charge a monthly or annual fee, or sometimes both. The fact that your home is used as collateral is one major disadvantage of HELOCs and home equity loans. You can lose your home in case of default. Make sure you can make the on-time payments before you sign the loan agreement, regardless of how wonderful it may sound.

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