Your home may be a hidden source of wealth for you. Your home’s equity is the difference between what you owe and what the property is worth. A home equity loan allows you to borrow money based on that amount.
The amount of equity you currently have isn’t based on the sale price of your home, but on what the house is worth. For instance, if you bought your home for $150,000 and your current mortgage is $120,000 that gives you $30,000 equity.
Let’s say for example that real estate values in your area have gone up and an appraiser values your property values at $200,000. This means the equity in your home is now $80,000. This is quickly calculated by using the new value of your home ($200,000) minus debt ($120,000) to arrive at the amount of your equity.
The amount you can borrow against that equity varies from one institution to the next and is determined by the type of loan you take out. If you take out a new mortgage you could borrow more than your equity amount.
If you take out a second mortgage or a home equity credit line generally you can borrow for up to 75% of your equity. So if we continue with the example above, your equity is $80,000 and you could borrow up to 75% of that, $60,000. The amount you can borrow is your credit limit.
The lending institution will determine your credit limit by estimating your ability to repay the loan. Some factors they’ll take into account are your income, other debt and other financial obligations. They will look at your credit card debt, the amount you owe on your vehicles and obligations like spousal support, child support and any court ordered payments.
Home equity loans can be a good way to pay off other, higher interest debt, like credit cards or auto loans. Generally, the annual percentage rate (APR) on home equity loans is much lower than other consumer debt but, beware, you home is collateral for the loan. If you default on the payments you could lose your house.
When you shop around for your home equity loan be sure to count all the costs before you decide on a lender. The APR doesn’t include costs such as closing costs and other fees such as attorney fees, filing fees, title search, taxes and insurance.
Some lenders also charge points. One point is equal to 1% of the amount of the credit line and the points are paid when you close on the loan. They aren’t added into the interest rate.
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