Tapping Home Equity: How, When and Why It Makes Sense

As a mortgage is paid down, the difference between what the home is worth and what is still owed — the equity — grows.

As a mortgage is paid down, the difference between what the home is worth and what is still owed — the equity — grows. This equity increases further if the value of the home continues to increase. Equity is considered an asset of the homeowner and is often the largest asset they hold.

Home equity loans provide a way for homeowners to access that asset. This type of loan uses the home as collateral, offering better terms and lower interest rates than unsecured debt like a credit card, but many homeowners don’t realize this option is available to them. Here are five common questions we often receive about home equity loans and their potential purpose:

Why would I consider tapping into my home equity?

In general, home equity loans can be a good choice when you need a sizeable amount of money for a long-term, value-adding purpose. Home improvement projects, consolidating higher-interest debt, helping to buy a second home or vacation property, or offsetting the cost of education may be good uses if the added loan payment fits your budget. Remember to factor in closing costs, a home appraisal, and other fees.

What is the difference between a home equity loan and line of credit?

With a home equity loan, the borrower receives the full loan amount after closing. There is a payment schedule and fixed interest rate that ensures the principal and interest are repaid by a certain date. A line of credit, on the other hand, provides the homeowner with access to a specific amount of credit that can be accessed as needed. Interest rates vary, and scheduled payments often cover interest only – the homeowner is responsible for paying principal on their own schedule. Often, lines of credit are good for those with excellent credit who need flexibility and can pay the loan off relatively quickly.

How can a home equity loan be used to boost retirement earnings?

First, a home equity loan can increase the longevity of your portfolio. If you borrow funds from your 401(k) while working, those dollars are no longer invested, and you might miss out on match dollars. Since that money is no longer participating in the market, it’s uncertain if the possible return on your investment would be greater than the interest rate you pay on a home equity loan. Second, once you retire, a home equity line may be advantageous for tax purposes, and you have the possibility of selling investments in a down market. Talk to an advisor to see if a home equity loan or line of credit makes sense for you.

When is a home equity loan not a good option?

There are a few reasons a home equity loan might not be the right fit. First, you need enough equity. Many lenders will offer up to 80% of your home’s value, minus what you owe already. Second, you need a good credit record and history for the best terms. Third, your loan size must meet a certain threshold. If you don’t meet these criteria, a personal loan may be a better option, or you may opt to defer your borrowing until you meet requirements.

When should I start the home equity loan process?

Sooner than you might think! Although many lenders start with a streamlined, online application process, they usually require an appraisal, credit check, and additional steps. You may need a few weeks or longer to get the loan approved, so plan accordingly.

A home equity loan or line of credit is just one part of your overall financial picture. At Alerus, our advisors get to know your whole story. They’ll evaluate your savings, retirement, mortgage, overall goals, and more to help find the right solution for your financial needs. If a home equity loan is the right solution, they offer competitive rates and terms. Talk to an Alerus advisor today.


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