Home Equity Loan Vs. Home Equity Line Of Credit

The reasons to consider a second mortgage are as varied as the programs available to you once you make the decision to tap into your home equity. Some popular reasons include college tuition, bill consolidation, health expenses, and home repairs. When it comes to borrowing money, these types of loans are favored for a number of reasons, not the least of which is the tax deductibility of all the interest paid on an equity loan. Before you start shopping around, however, you should decide whether you want a closed-end second mortgage or a home equity line of credit (HELOC).

A closed-end second, also known as a home equity loan, refers to a second mortgage that is structured in a very similar way to your first. To borrow using a home equity loan, or closed-end second, you make a one-time choice on the amount you would like to borrow, close on the loan, and receive a check for the amount you’ve chosen. You will have regular payments structured over a period of years, and upon completion of those payments, your home equity loan will be paid in full. If you decide later that you would like to draw additional funds, you will need to arrange for an additional loan with additional closing costs. However, the closed-end second carries a fixed rate that will never go up and offers a straightforward plan for paying the money back.

A HELOC, on the other hand, is a line of credit from which you can withdraw money again and again. In many ways, a HELOC is just like a credit card, but the interest you pay is tax-deductible. You will close on a HELOC only one time, but if you decide after a few months that you need to withdraw additional money, you will be able to do so up to the value of the loan. That is to say, if you close on a HELOC for $60,000 and over a period of time pay back $13,000 toward the principal, that $13,000 is available to be drawn again at any time. You will continue to make payments toward what you owe just as you would on a closed-end second; however, the full amount of the loan is always available to be drawn on, as long as the amount you owe and the amount you borrow do not exceed the total amount of the original HELOC.

Whether a closed-end second mortgage or a HELOC is right for you is something you, your loan officer, and / or your financial planner must decide. If you are relatively sure that you will need to borrow against your equity only one time in the next several years, a closed-end second offers the fixed rate and regular amortized payment schedule that ensures you know both how much your payment will be and how long it will take you to pay off the loan. This kind of assurance can be particularly useful if you don’t trust yourself to spend wisely, or if you tend to buy impulsively and don’t want the option of drawing out additional funds.

A HELOC can be most useful if you are taking on a project, such as home repair, that has the potential of unforeseen expenses. A HELOC offers you the flexibility to borrow again and again. You may even be able to secure a HELOC that carries a low interest-only payment allowing you to borrow more and still have a manageable payment amount each month. Whichever you choose, drawing against the equity in your home is sure to save you money on the interest you’re paying for your purchase power, and as always, the interest you pay on any type of home mortgage is tax-deductible, offering an additional incentive.

Consult your loan officer or financial planner to decide whether a closed-end second mortgage or a HELOC would best suit your needs. Once you’ve made this first decision, you’ll be well on your way to finding the right equity loan for you.

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