Requirements for a Home Equity Loan or HELOC
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If you are looking for ways to tap into your home’s equity and borrow low-interest money, you’ve probably come across information about taking out a home equity loan or accessing a home equity line of credit (HELOC).
Depending on your situation, though, you may or may not meet the requirements for a HELOC or a Home Equity Loan. We’ve laid out the basics so you can understand what is required to tap into your home’s value with these two tools.
Home Equity Loan vs. HELOC
Home Equity Loans and HELOCs are two options that allow you to leverage your home’s equity to borrow money, but they have their differences. A home equity loan is disbursed as a lump sum. This means that the money is issued once, after which you pay it back over the agreed-upon term of the loan.
A home equity line of credit (HELOC) is a line of credit, similar in some ways to a credit card. Essentially, it’s a revolving credit line. With a HELOC, you can borrow money that you then pay back, at which point you can borrow more money.
One of the key perks of both of these is that the interest in Home Equity Loans and HELOCs is tax-deductible if you use it to renovate or substantially improve your home.
Getting Approved for a Home Equity Loan or a HELOC
When a lender evaluates your eligibility to borrow against your equity, they will look at several aspects of your finances to make their decision. In general, you’ll need the following to qualify for a HELOC or home equity loan:
A Debt-to-Income Ratio of Less Than 43%
Your debt-to-income ratio (DTI) is the ratio of how much you owe in debt in total each month, divided by your monthly income and converted to a percent. The higher your DTI, the more debt you have.
To determine if you are eligible for a HELOC or home equity loan, lenders will evaluate your DTI. The federal limit for borrowing against your equity is 43%. In some cases, this can be slightly higher for HELOCs.
A Good to Excellent Credit Score
Your credit score is an essential determinant of your trustworthiness as a borrower. A good FICO credit score — in other words, one approximately 670 and above — is likely sufficient as long as you meet all of the other requirements.
If you have a very good credit score (740–799) or an exceptional credit score (800 and above), it indicates to lenders that you are very likely to be responsible with borrowed money and will likely pay it back on time.
A Strong Repayment History
A HELOC or home equity loan leverages your home as collateral to borrow money. This means that if you fail to pay your loan, you will be at risk of losing your home. Thus, lenders will want to be sure that you have a strong history of paying your bills on time before they approve you to take on more debt.
At Least 15–20% Current Equity in Your Home
To borrow against equity, you first have to have equity. Generally, you’ll need to have 15–20% of your home’s value already paid off before you are eligible to use it as leverage to borrow more money. To know your home’s value, you’ll need to have it appraised.
The amount of equity you have in your home informs your loan-to-value ratio, which some lenders will also use to evaluate whether to approve you for a home equity loan or HELOC. A loan-to-value ratio (LTV) is a ratio of the amount of money you owe on your home versus its appraised value.
How Much You Can Borrow with a Home Equity Loan or a HELOC
How much you can borrow is limited by the equity that you have in your home and your home’s current loan-to-value ratio.
In general, you can usually borrow up to 80–85% of your combined loan-to-value ratio. The combined loan-to-value ratio (CLTV) is similar to an LTV but includes both any new loans you take out and your existing mortgage.
For example, if you currently owe $250,000 on a $500,000 home, your current loan-to-value ratio is 50%.
When you add in the new money you take out via a HELOC or home equity loan, this ratio cannot exceed 80–85%. In this case, you could borrow an additional $150,000–$175,000, depending on the lender.
Shopping for a Home Equity Loan or HELOC
When you are shopping for a HELOC, you’ll want to make sure you’re getting the best deal. Just like shopping for your original mortgage, it can pay to shop around and check out various lenders.
Because credit unions are not-for-profit and owned by their members, they generally offer the most competitive rates.To find out what Listerhill Credit Union’s current rates are for HELOCs and Home Equity Loans, click on the following link.
