Understanding Home
Equity Loans and Line of Credit Loans: Getting the Most
Out of Your Home's Equity
When looking for a home equity loan, you
may be wondering, 'how much loan do I qualify for?' You
may wonder if you can qualify for enough to pay off those
debts that have been piling up, or whether you have enough
equity in your home to qualify.
The good news is that there are options
out there for the savvy shopper, and obtaining a home equity
loan is easier than ever before. But it's important to understand
what these options are, and what to look for in a home equity
loan.
Conventional qualifying: with conventional
qualifying, the loan amount that you are able to obtain
is influenced by three main factors: your past credit history,
your current income (and how long you have been at your
current job), and your indebtedness. FHA and VA loans, for
example, are less strict, and will allow a person to use
more of their monthly income towards paying off a home loan,
than a conventional 30-year fixed-rate mortgage will. Under
this system, borrowing guidelines established by Fannie
Mae and Freddie Mac determine if a person is extended an
“A” loan, a “B” loan, a “C”
loan, or if they even qualify at all.
Credit impairment such as a history of
bankruptcy, car repossession, late bill payment behavior,
or collections will all count against the person applying
for a loan. Those who try to qualify will often be referred
to as 'nonconforming' or 'sub prime'. However, there are
lenders who specialize in extending loans to those with
impaired credit; these loans are usually at higher interest
rates.
No qualifying equity home loans: some
lenders have programs for borrowers that waive normal qualifying.
These loans are better for the person who has less than
perfect credit, and who wouldn't normally qualify for a
home equity loan. In these situations, instead of looking
at your current credit rating (which can go back six years),
the lender will look at your past year of credit history
when making a decision. Often credit problems that are 5
years old or more can be waived, if you have improved your
recent credit history.
Other factors that can help with getting
a loan if you have less than perfect credit are your job
history; working for at least two years in your current
field, active military duty, and documentation that you
are obtaining an education to work in a higher paying field.
When applying for a loan, it’s important to also report
any extra income you earn from overtime, bonuses, part-time
work or contract employment, or incomes from sources such
as capital gains over the past 2 years. This will better
qualify you for a higher loan. If you are self-employed,
you may be able to obtain a ‘no documentation”
loan, which doesn’t require pay stubs as proof of
earned income.
High loan-to-value ratio loans: A conventional home equity
loan will allow you to borrow up to 80% of the equity that
you have in your home (equity is the value you own in your
home after you deduct the amount you still owe for the mortgage;
in other words, appraised value minus outstanding debt on
the home = your home’s equity). This equity is collateral
that you use when borrowing against your home.
At times, lenders will extend home equity
loans for more than the appraised value of your home, such
as 125% loans. These are known as high loan-to-value (LTV)
ratio loans. These can be used to consolidate two loans,
such as a first and second mortgage, into one loan; or for
financing projects such as remodeling or paying off high-interest
debts. It’s important to realize that if you get a
high LTV loan, that you will also be required by the lender
to purchase mortgage insurance to protect them.
A home equity line of credit allows you
to borrow against the equity in your home over time in a
certain number of “draws” on your credit. As
you pay this line of credit back, you can once again draw
against the line of credit. These types of loans are often
used for projects such as remodeling your home; you are
only charged interest once you draw funds from the account.
Many lenders charge “inactivity fees” if a person
does not make any draws against their line of credit within
a certain period of time, so it’s important to check
your lender’s policy.
Some home equity loans are a combination
of a home equity line of credit and fixed-rate equity loans.
The main loan in this situation is a line of credit loan,
but a portion can become a fixed-rate loan; once this is
paid down, a line of credit then becomes available again.
No appraisal home loans: Most lenders
require that your home be appraised before offering you
a loan, but not all do. Normally, no appraisal home loans
are for smaller amounts than conventional home equity loans,
and allow you to use your home as collateral to obtain cash.
In this situation, a loan is refinanced without re-appraisal
of your home, which can cut down on appraisal fees, and
can increase the amount of credit you are extended if your
home value has gone down.
If you’re turned down for a loan,
it’s important to not be discouraged. There are different
lenders who work with people who have less than perfect
credit, and often even if you are turned down by one, another
will approve your application. This is one reason it’s
important to “shop around” and try different
lenders. You can ask your lender if they have specialists
working with those with an impaired credit history, who
can help you with finding the perfect loan for your needs.
When applying for a home equity loan,
it’s important to bring the necessary documents asked
for by your lender. These include:
- Copies of your pay check or stubs (these
are especially important for “no qualifying loans”
where your normal credit history is waived);
- Documentation of other loans, liens,
property taxes, and other debts that you have;
- A copy of your deed and title search
for your home and property;
- Documentation of your home’s
appraisal and inspection if required;
- Documentation of any necessary
insurance.
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