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Home equity loans Many homeowners acquire home equity loans in order to finance some of their needs such as home improvement, vacations, and even emergency expenses. But what exactly is a home equity loan and how is it similar or different from the mortgage loan. In one aspect, the home mortgage loan and the home equity loan are the same because both are secured loans. That is, the loan is secured with the home as collateral. The collateral is the borrower’s guarantee to the lender that he or she is motivated to pay off the loan. Otherwise, the collateral will be owned by the lender. If the collateral is the home, the usual recourse of the lender is to sell the home and the homeowner is evicted. With this in mind, a borrower must be prudent before taking a home equity loan and risking the loss of his home. From other aspects, the home equity loan is different from the home mortgage loan because of the loan term, the interest rates, and the amount that can be borrowed. The loan term of mortgage loans is usually longer than home equity loans. The term of a mortgage loan can be as long as 30 years while the term of the home equity loan is between 5 to 15 years. Since the home equity loan is considered a second loan secured on the house, the interest rate is higher than that of the mortgage loan. And finally, the amount that can be loaned will differ between the mortgage loan and the home equity loan. In the mortgage loan, the amount loaned is the value of the house being bought. This loaned amount can be reduced by the down payment made on the house. For example, the value of the house can be $150,000 and the down payment made is $20,000. This means that the mortgage loan is equivalent to the difference between the down payment and the value of the house, $130,000. The home equity loan, on the other hand, will be equal to the difference between the value of the house and the amount that the owner owed in mortgage. Thus, on the day the house is bought, the equity is roughly equivalent to the down payment. As years pass, the value of the house will appreciate and it may now be equivalent to $250,000. At the same time, the homeowner may have faithfully paid the monthly mortgage bills and has reduced the principal mortgage loan by $25,000. This means that the remaining mortgage loan is only $105,000. The difference between the mortgage balance and the present value of the house ($250,000 - $105,000) is the equity of the house ($145,000). The homeowner can get a home equity loan for as much as this amount. |