Equity release products

A discussion of the nature, benefits and operational methods of a home equity loan in simple, easy to understand language is helpful in deciding whether or not such a home equity mortgage should be acquired.

A home equity loan or home equity mortgage is an effective second mortgage on your home, taken out after you have developed some equity in your home. For example, if you purchase a home for $200,000 and you have paid $40,000 over the years against the loan principal and the market value for the home is now $250,000, you now have equity in the home of $90,000. Theoretically, you could apply for a $90,000 loan against the equity, but in practice, most lenders prefer to keep the loan at 80% loan to value or, in this case $187,500. In this example, a loan for $27,500 could be approved.
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Research result shows that credit card debt is the main debt problem for most of debtors. Credit card carries high interest rate, if you continue delay your credit card payment or continue to pay only the minimum due amount, it will quickly roll up the total debt and drag you into a serious debt trap. Hence, credit card debt must be resolved fast to avoid making your debt situation worse. If you have build up your home equity, you are at a good position to get your debt issue resolve by consolidating your credit card debt and other high interest debt with your home equity.

Why consolidate debt using your home equity?
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Home equity loans have become one of the most popular fund raising options for individuals.

Home equity loans are the loans taken using your home's equity as the collateral. Thus they are a type of secured loan.

These loans are based on two facts - first, that you have repaid a certain portion of the home mortgage and thus should be able to reutilize that equity; and second that the value of your home has increased since you first purchased it.

The common reasons for taking an equity loan are home improvements, educational expenses, medical bills, debt consolidation etc. There are usually no restrictions on how the borrowed money is used.

The interest paid on such loans is usually tax deductible. Also the interest rates on them are lower than credit card other type of consumer loans. (They are higher than the first mortgage.)

Let's understand what "home equity" is.

Home equity is defined as the difference between the market value of your home and how much you owe on the mortgage (or mortgages in case you have more than one.)

The market value of your home will be determined by bank's appraiser or a licensed appraiser.

Suppose market value of your home is $ 100,000 and you have made a down payment of $ 10,000.

Then your equity

= market value - amount owed

= $ 100,000 - $ 90,000

= $ 10,000

After three years if you have paid back $15,000 more of the debt, you will still have $75,000 of the debt left. However after three years the market value of your home would have increased to $ 150,000.

Thus your equity after three years would be

Market value - amount owed

=$ 150,000 - $ 75,000

=$ 75,000

Besides home equity loans (fixed rate home equity loans), there is another type of home equity debt - home equity line of credit or HELOC.

Both of them are known as "Second Mortgages" as they are secured by your home just like the first mortgage.

"Second Mortgages" are repaid sooner than the first mortgages, which are usually repaid in thirty years. Home equity loans usually have a time frame of five to fifteen years.

Home equity loans are a one time lump sum loans, that are repaid over a time period decided beforehand.

On the other hand, home equity line of credit or HELOC allows you to borrow up to a certain limit for the period of the loan. The time limit of the loan is set by the lender. You can withdraw money any time during the time period and repay it any time. It works the same way like a secured credit card.

A HELOC has a variable interest rate that varies through out the period of the loan. The HELOC interest rate depends on the prime lending rate (prime lending rates are fixed by the federal reserve in the US.) The payments can vary depending on what is the amount that has been borrowed, the interest rates and whether the loan is in the draw period or the repayment period.

The credit rating of the borrower is also a factor in deciding the home equity loan interest rates.

The draw period of the line of credit is the period during which you can borrow any amount up to the limit specified by the lender. Also only the interest has to be paid during this period; however you may choose to repay the principal amount if you wish.

During the repayment period, no new debt can be taken and the existing debt must be paid back.

Usually draw periods are for ten years and repayment periods around fifteen years, but this varies depending on the lender's policies.

Withdrawals for HELOC can be done by checks, credit cards or EFT. Lenders may have certain terms which make require you to take an initial advance when the HELOC is setup, borrow a minimum amount each time you use it and keep a minimum outstanding balance.

If you decide to sell off your home, you have to pay back full amount of the home equity loan.