What is a home equity loan?

Learn how home equity loans work

A home equity loan lets you borrow money against the value of your home’s equity to pay for things like home renovations and college educations or to pay down higher-interest rate debts. Freedom Mortgage offers cash out refinances to customers who want to tap into the value of their home’s equity. Read on to learn more about your home equity loan options.

The requirements for a home equity loan

To get a home equity loan, the first thing you’ll need is a substantial amount of home equity. You can estimate your home’s equity by taking the current fair market value of your home and subtracting your current mortgage balance, plus the balance of any other loans that use your home as collateral, from that amount.

For example, let’s say your home is worth $300,000, and you have a mortgage balance of $150,000 (with no other loans on the home). In this case, your estimated home equity is $150,000. You, typically, can’t borrow the full value of your home’s equity with a home equity loan. Instead, you generally can only borrow a portion of the value, based on the lender’s requirements.

You’ll need to complete an application and meet credit, income, and financial requirements to get your home equity loan approved. Your lender may require a home appraisal to establish the current value of your home. You’ll probably have to pay closing costs, as well.

A home equity loan gives you a fixed amount of money that you’ll get as a lump sum, when the loan closes. You will begin making principal and interest payments right away on this new loan.

Home equity loans vs. cash out refinances

Home equity loans are similar to cash out refinances in that both give you a fixed amount of money as a lump sum at closing. You’ll need to complete an application for both, meet your lender’s requirements to get your loan approved, and pay closing costs.

With a cash out refinance, you’ll replace your current mortgage with a new mortgage. When interest rates are lower than the rate on your current mortgage, this means that you can refinance your current principal balance at a lower rate while getting cash from your home’s equity. A home equity loan does not allow you to do this. A home equity loan is a second mortgage and does not change the terms of your primary mortgage.

With a cash out refinance, you’ll make one payment on one loan each month. Home equity loans will require you to make two payments on two loans.

Home equity loans vs. HELOCs

Home equity lines of credit (or HELOCs) are like credit cards in many ways. When you get a HELOC, you are approved to borrow an amount of money—up to a certain limit, for a period of time—and you can use that line of credit for cash whenever you need it. As a result, HELOCs give you the flexibility to choose how much money you’ll borrow, and when you’ll borrow it, compared to home equity loans and cash out refinances. HELOCs often have variable interest rates. This means that the cost of your interest payments can change over the life of the loan. Learn more about HELOCs.

Home equity loan rates

The rate you might get on a home equity loan is affected by many factors. Current market rates, your lender’s standards, your credit score, and your finances can all influence the rate you might get. When you are looking at rates on home equity loans, compare the APR versus the interest rate.

APR (or annual percentage rate) takes into account the closing costs you might have to pay to get a home equity loan. When the APR is much higher than the interest rate on a home equity loan, that can be a sign that the loan comes with significant closing costs.

Talk to Freedom Mortgage about getting cash from your home equity

Freedom Mortgage can help you tap into your home’s equity with cash out refinances for Conventional, VA, and FHA loans. Ask us today if you qualify for cash out refinancing!

Last reviewed and updated April 2024 by Freedom Mortgage.