Requirements for a Home Equity Loan and HELOC - NerdWallet (2024)

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As you make mortgage payments and your home value increases, your share of ownership in your home — your equity — also increases. Home equity loans and home equity lines of credit, or HELOCs, are two ways to turn some of that equity into cash without having to sell your home.

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Home equity loan vs. HELOC

A home equity loan converts some of your equity into cash. You’ll receive it as one lump sum and pay it back at a fixed rate.

Alternatively, a HELOC is a line of credit that you can draw on, pay back and draw on again — also called revolving credit — for a set period of time (usually 10 years). It often starts with an adjustable interest rate and can be followed by a fixed-rate period.

How much you can borrow

“Typically banks will lend up to 80% of the value of the property,” says Jon Giles, head of consumer direct lending at TD Bank. “Many banks, including TD, will lend higher than 80%, but you typically have a higher interest rate.”

Some lenders — such as Navy Federal Credit Union — have options to borrow up to 100% of your home’s equity.

“If you’re going to go above that 80%, expect about a 1% to 2% increase in your interest rate,” Giles says.

Your lender might make you an offer based on your property value, but there's a little more math required to find out exactly how much you might receive. If your mortgage balance is $200,000 and your home is worth $325,000, and you were to borrow 80% of the home’s value, then your credit limit would be $60,000. This is because the lender would loan you 80% of the home’s $325,000 value — $260,000 — minus the $200,000 that you still owe.

How to qualify for a home equity loan or HELOC

Although home equity loans and HELOCs are different loans with their own unique terms and benefits, an applicant who qualifies for one will typically also qualify for the other, according to Ace Watanasuparp, Citizens Bank’s national director of strategic sales. “These are very, very similar guidelines, whether it’s a home equity line of credit or a stand-alone home equity loan.”

The exact requirements vary by lender. However, you’ll have the best chance of getting approved if you meet these minimum criteria.

Equity of at least 15% to 20%

When the value of your home is greater than what you owe on the mortgage, you’ve got equity. Lenders will want you to have built up at least 15% (preferably 20% or higher) equity in your home, which is determined by an appraisal.

A debt-to-income ratio below 50%

Lenders will want you to have a debt-to-income ratio of 43% to 50% at most, although some will require this to be even lower. To find your debt-to-income ratio, add up all your monthly debt payments and other financial obligations, including your mortgage, loans and leases, as well as any child support or alimony. Then divide this by your monthly income, and convert that number to a percentage. For example, your DTI is 40% if you earn $3,000 a month and make payments totaling $1,200.

A credit score over 620

“Homeowners with a credit score of at least 620 will definitely have an easier time getting approved,” says Watanasuparp. Higher is better, however, as Watanasuparp recommends a credit score of at least 720 to qualify for the best rates.

According to the credit reporting company Experian, borrowers have the best chance of qualifying for approval with a score of at least 700. If your score is lower, you should be an outstanding candidate in other areas.

A strong history of paying bills on time

A strong track record of paying your bills on time demonstrates your reliability as a borrower. Late payments stay on your credit report for seven years, and the longer a bill goes past due, the stronger its impact on your financial profile.

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» MORE: How to safely tap home equity in a financial emergency

Who should get a home equity loan

Since borrowers receive home equity loans as one lump sum, this is an ideal way to tap your equity if you know exactly how much you’ll need to borrow. This kind of loan can also be a good fit if you’re financing just one project or other expense, so long as you meet the lender’s minimum criteria.

“One thing with home equity is that it’s always good to use it for something that will give you a long-term return,” says Giles. For example, your home’s equity could be used to fund education expenses or home remodeling. It could also help you consolidate debt, if the loan allows you to pay down that debt faster or at a lower rate.

» MORE: Calculate how much home equity financing you can qualify for

Who should get a HELOC

Since HELOCs are a line of credit that you can draw from as needed, they’re a more flexible option for tapping your equity. If you know that you’ll want to make ongoing withdrawals — such as for a series of projects — or if you don’t yet know exactly how much you’ll need to finance your expenses, then a HELOC could be a good fit for your needs.

There are risks that come with accessing your equity early, and consumers should use their best judgment when taking out this kind of loan. When you borrow against your home’s equity, you’re putting your house on the line as collateral, which means the bank could take the house if you don't make the loan payments on time.

» MORE: HELOC vs. home equity loan: pros and cons

I am an expert and enthusiast-based assistant. I have access to a wide range of information and can provide assistance on various topics. I can help answer questions, provide information, and engage in detailed discussions.

Regarding the concepts mentioned in the article you provided, let's discuss each one in detail:

Home Equity Loans and Home Equity Lines of Credit (HELOCs)

Home equity loans and HELOCs are two ways to access the equity in your home without selling it. As you make mortgage payments and your home value increases, your share of ownership in your home, known as equity, also increases.

  • A home equity loan converts a portion of your equity into cash, which you receive as a lump sum. You then pay back the loan at a fixed interest rate.
  • A HELOC, on the other hand, is a line of credit that allows you to draw funds as needed, pay them back, and draw again during a set period (usually 10 years). It often starts with an adjustable interest rate and may be followed by a fixed-rate period.

How Much You Can Borrow

The amount you can borrow against your home's equity depends on various factors, including the lender's policies. Typically, banks will lend up to 80% of the value of the property. Some lenders, like Navy Federal Credit Union, offer options to borrow up to 100% of your home's equity. However, borrowing above 80% may result in a higher interest rate.

To calculate the credit limit, you can subtract your mortgage balance from the value of your home. For example, if your home is worth $325,000 and your mortgage balance is $200,000, borrowing 80% of the home's value would give you a credit limit of $60,000 ($325,000 * 0.8 - $200,000).

Qualifying for a Home Equity Loan or HELOC

While specific requirements may vary by lender, there are some general criteria to qualify for a home equity loan or HELOC:

  1. Equity of at least 15% to 20%: Lenders typically want you to have built up at least 15% to 20% equity in your home, which is determined by an appraisal.
  2. Debt-to-Income Ratio below 50%: Lenders generally prefer a debt-to-income ratio of 43% to 50% at most. To calculate your debt-to-income ratio, add up all your monthly debt payments and divide them by your monthly income, converting the result to a percentage.
  3. Credit Score over 620: A credit score of at least 620 is recommended for easier approval, but higher scores, such as 720, may qualify for better rates. Borrowers with a score of at least 700 have the best chance of qualifying for approval.
  4. Strong History of Paying Bills on Time: A track record of paying bills on time demonstrates reliability as a borrower and can positively impact your chances of approval.

It's important to note that these are general guidelines, and specific lenders may have additional requirements or variations in their criteria.

Home Equity Loan vs. HELOC

The choice between a home equity loan and a HELOC depends on your specific needs and financial situation:

  • Home Equity Loan: This type of loan is suitable if you know exactly how much you need to borrow and prefer to receive the funds as a lump sum. It can be ideal for financing a single project or expense, such as education expenses, home remodeling, or debt consolidation.
  • HELOC: A HELOC offers more flexibility as it provides a line of credit that you can draw from as needed. It is suitable if you anticipate ongoing withdrawals or if you're unsure of the exact amount you'll need to finance your expenses.

Both options have their pros and cons, and it's important to carefully consider your financial goals and circumstances before making a decision.

Risks and Considerations

When accessing your home's equity through a loan or HELOC, it's essential to be aware of the risks involved. By borrowing against your home's equity, you are using your house as collateral. If you fail to make loan payments on time, the bank could potentially take ownership of your home.

It's crucial to use your best judgment and consider the potential consequences before taking out a loan or HELOC. Assess your ability to make payments and ensure that the purpose of the loan aligns with your long-term financial goals.

I hope this information helps you understand the concepts mentioned in the article. If you have any further questions or need more information, feel free to ask!

Requirements for a Home Equity Loan and HELOC - NerdWallet (2024)
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