How Home Equity Loans Work

Whether you’ve recently added “became a homeowner” to your list of accomplishments or made the final payment on a 30-year mortgage, tapping into your single largest asset to pay down debt, cover college expenses, or fund a remodeling project could make financial sense. The recent surge in property values has increased equity in homes across the country.

Home’s Fair Market Value – (All Mortgages and Home Liens) = Home Equity

Homeowners typically build equity by paying down their mortgage principal balance. Equity can also be created when real estate market conditions change. The greater the distance between the mortgage loan balance and the home’s fair market value, the larger the equity.

While planting a For Sale sign in the front yard could get you one step closer to accessing that equity, so might applying for a home equity loan.

What Is a Home Equity Loan?

A home equity loan provides a low-cost way for a homeowner to access the cash value of their home without selling the property. Applicants who meet minimum credit score, household income, and lender underwriting requirements receive loan funds in one lump sum from the financial institution that makes the loan.

Home equity loans are often capped at an 80% combined loan-to-value (CLTV) ratio. This amount is calculated by subtracting any mortgages or liens from the home's fair market value (to determine the home’s equity) and multiplying that number by 0.8.

For example, a home with a $400,000 appraised (aka fair market) value and $0 in mortgages or liens could qualify for up to $320,000 in home equity loan funds.

Similar to a mortgage, a home equity loan requires that the property serve as collateral for the loan. Unlike a mortgage, a home equity loan isn’t limited to the purchase of a home. Funds from an equity loan can be used for just about anything.

Benefits of a Home Equity Loan

A home equity loan can be a significant source of cash that provides several benefits, including:

  • High borrowing limits based on the calculated equity
  • Predictable monthly payments that stay the same over the life of the loan
  • Tax-deductible interest payments that can decrease the amount owed on federal income tax returns*

While funds can be used for home renovations that increase the home’s value, the money can also be used for other purposes like eliminating higher interest rate credit card debt, funding a college education, or covering the costs of a destination wedding.

Other Considerations

Home equity loans are ideal for borrowers who know how they intend to spend the money. Repayment begins shortly after disbursement and continues until the loan is paid in full. If the home is sold before the loan is paid off, the home equity loan plus any remaining mortgage balance must be paid in full before ownership of the home can be transferred.

Homeowners should also carefully consider their ability to repay the loan since failure to make payments as agreed could result in the loss of the home. But for those ready to access their equity without packing a single box, a low-cost home equity loan might be the best move.

Use the equity in your home to fund your financial goals. Lincoln Savings Bank’s easy online application can help you get the cash you need today. Visit a friendly branch location or call us at 800-588-7551 to learn more about how a low, fixed-rate Home Equity Loan can meet your needs.

*Consult a tax advisor for further information regarding deductibility of interest and charges.