Home Equity Loans as a Quick Cash Source
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If you need cash quickly you are probably exploring your options. Loans are a very popular choice when it comes to getting cash quickly, but with all the different loans available, what's the best type of loan for you? Consider a home equity loan as a quick cash source. There are aspects of a home equity loan that make it a good and not so good choice for a quick cash source. Let's explore those aspects.
Good Aspects of a Home Equity Loan
- Low interest rates: Home equity loans come with one of the lowest interest rates available. The only type of loan that really comes with a better interest rate is your primary mortgage loan, but that can't be used as a quick cash source. Interest rates are typically offered at one percent above the prime mortgage rate at the time you seek the loan. Some lenders offer an introductory rate that is lower than the prime mortgage rate for an introductory period to earn your business then raise it after the period is over to a little higher than the standard fixed interest rate. If you are looking for a low interest loan, a home equity loan may be one of the best options available.
- Tax deductible interest: One aspect of home equity loans that sets them apart from all other quick cash sources is that the interest on the first $100,000 you borrow is tax deductible. It doesn't matter what you use your home equity loan for, but if you use it for home improvement, the amount that is tax deductible raises to the interest paid on the first $1,000,000 you borrow. This means that if you pay $5,000 in interest on a home equity loan, your taxable income for the year is reduced by $5,000. Be sure to see a tax advisor to figure out how much you can deduct on your tax return.
- Large loan amounts: Besides primary mortgage loan, a home equity loan offers you the largest loan amount available. How much you qualify for is based on your loan-to-value ratio, or LTV ratio. The LTV ratio is determined by taking the amount you owe on your home (primary mortgage + the amount of a home equity loan you would like) then dividing it by the fair property value of your home. All lenders will loan you out enough to make your LTV ratio 80% and some lenders will even loan you 125% of your LTV ratio. For example, if your home was worth $100,000 and you owed $20,000 on your mortgage, you could borrow as much as $60,000 in a home equity loan before some lenders will stop considering you, and up to $105,000 before all honest lenders will stop considering you for a home equity loan. A home equity loan gives you access to the largest amount of money you can get on a loan that can be used for whatever you would like.
The Fees for Every Home Equity Loan
When you take out a home equity loan, there are fees and closing costs you will have to pay. If your lender advertises a loan without closing costs, you can know that they are making up those costs another way, typically with a higher interest rate. The fees and closing costs usually total 2-5% of your loan. You can pay them upfront, or you can finance them. If you choose to finance them as a part of your loan, be aware that you will be paying interest not only on what you borrowed for the loan, but also what you borrowed for closing costs, which can add a mountain of interest onto your loan. There are some typical fees and closing costs you can expect with every home equity loan.
- Property Appraisal: This fee is paid so the lender will know the fair market value of your home. Sometimes, instead of having a professional appraiser inspect your property, you can cut the cost of the fee if the lender will accept computerized estimates called automated valuation models (AVM) or if they ask a real estate agent to appraise the property, which is called a broker's price opinion (BPO). Both AVM's and BPO's are less expensive than a full appraisal of your property.
- Title Search: A title search fee is charged for the lender to inspect public records to be sure there are no liens against your property other than your primary mortgage if you have one. This is a mandatory fee for most lenders as they won't just accept your word that you own your home free and clear.
- Processing Fee: Almost every lender will include some sort of processing fee. It is referred to by a lot of different names, but it is simply the fee they charge to consider and process your loan application.
- Manageable payback period: With the large amount you can get from your home equity loan comes a manageable payback period. Payback periods on home equity loans are generally three to fifteen years. Having a longer payback period lowers the amount you pay on a monthly basis, making it much easier for you to carry the loan. Because the payback period is more manageable than a lot of loan types, defaulting on this type of loan is less common.
- Negotiable terms: When you are shopping for a home equity loan, keep in mind that the terms of the loan are negotiable. If a term is not acceptable to you, like an early payback penalty, you can ask for it to be removed. You may have to make concessions in order to secure the terms you want, but everything on the loan from the amount you are able to borrow to the fees you pay are negotiable. Home equity loans are the most negotiable loans because you are using your home as collateral. You hold the cards, so use them wisely to negotiate and secure the best loan for you.
Not so Good Aspects of a Home Equity Loan
- You have to own a home: In order to even ask for a home equity loan, you have to own a home. This really limits who can take out this type of loan as more than half of all Americans don't own their own home. Most people who are in need of a quick cash source don't own a home to use as collateral on a loan. Of those who own their homes most don't have enough equity built in their home to make a home equity loan worth their time, especially when the housing market is down and fair-market property values have plummeted. Your LTV ratio can work for you or against you. If you don't owe much on your home, you may be able to secure a good home equity loan. If you owe more than the home is worth on your mortgage combined with a home equity loan, it's time to find another loan option.
- You risk loosing your home: The biggest deterring factor for home owners in taking out a home equity loan is the risk of loosing their home. You are using your home to secure your loan, which means if you default on your loan, your lender can seize your home and sell it to make up their loss. If you owe them enough if and when this happens, you may not get any money from the sell of your home. This is why it is important to not go over an 80% or 90% LTV score. If you default on your loan, at least you will be able to get back some money to start over. If you default on your loan, you do have the option to refinance your home equity loan so you'll be able to afford the monthly payments, but if your credit or income has suffered and isn't good enough to qualify for a new loan, you will loose your home.
- Not a quick approval process: One of the major reasons a home equity loan is not a great option for a quick cash source is because the approval process on the loan isn't quick. You have an approval process and closing period, just like if you were buying a home. This can take anywhere from two weeks to two months. As it isn't a reliable amount of time for an approval process, you can't rely on having the money from a home equity loan when you need it. If you are using it to pay unforeseen medical bills or other bills that have a deadline, you may not get your money in time when using this type of loan as a cash source. An unreliable cash source is not your best option when you need money quickly.
- Unfavorable terms: One thing you find with a home equity loan that you won't find in many other types of loans are the amount of fees and closing costs you are responsible for. Between fees, interest, insurance, and closing costs you could pay as much as double the amount you borrowed over the life of the loan. Watch out for unfavorable terms or a lender than pressures you into a longer payback period than you want to carry. Unfavorable terms to look out for are things such as early payback penalties, increases in interest if you are late or miss a payment, a lender requiring you to purchase credit insurance, or excessive amounts in fees and closing costs. The way to avoid unfavorable terms is to shop around. Shopping around takes time. If time is an issue this type of loan is not your best option for a quick cash source.
- Balloon payments: One unfavorable term to avoid at all costs is a balloon payment. A balloon payment is where your loan is not amortized so that the entire amount owed is paid over the life of the loan. It is amortized so that you have lower monthly payments, but at the end of the term, you have to pay whatever is left owing in one large lump sum. This often results in refinancing your loan and costing you more in fees, closing costs, and interest as you carry another loan.
- How much you actually pay in interest and other fees: The biggest drawback to a home equity loan is how much you will actually be paying for the loan. Be sure to get a loan disclosure from your lender and read it as it will tell you what you will be paying yearly for the loan and how much total you are expected to pay if you carry the loan the full term.
