Home Equity Loan FAQs: Answering Top Questions on Second Mortgages

Learn the benefits and pitfalls Part of the Series Home Equity Loans/HELOC Tapping Your Home Equity

A home equity loan, also known as a second mortgage, lets homeowners borrow money by drawing on the equity value in their homes. Home equity loans exploded in popularity in the late 1980s, as they provided a way to somewhat circumvent the Tax Reform Act of 1986, which eliminated deductions for the interest on most consumer purchases. With a home equity loan, homeowners could deduct all of the interest when filing their tax returns.

However, the tax deduction was modified with the passage of the Tax Cuts and Jobs Act of 2017. Starting in 2018 and ending after 2025, you may deduct the interest paid on a home equity loan as long as the money is used for qualified home renovations or to “buy, build, or substantially improve” the home, according to the Internal Revenue Service (IRS).

Nonetheless, there are still several benefits to home equity loans, such as their relatively low interest rates compared with other loans. However, you can no longer receive an interest tax deduction if you use the funds for personal purchases or to consolidate credit card debt.

Taking out a home equity loan or line of credit can help you access your home’s equity for major expenses, debt consolidation, or home improvements. But before pursuing a second mortgage, it’s wise to understand how these products work.

To get the full picture, let’s walk through some frequently asked questions on home equity loans and lines of credit. Read on for plain English answers to common FAQs from borrowers.

What is a Home Equity Loan?

A home equity loan is a type of second mortgage that lets you borrow against the equity or “ownership value” in your home. With a home equity loan, you receive the full loan amount upfront in a lump sum. The loan has a fixed interest rate and a set monthly payment over a repayment term, usually 5 to 30 years.

Home equity loans are also called second mortgages or closed-end home equity loans The “second mortgage” term comes from this type of loan being subordinate to your existing first mortgage.

What is a Home Equity Line of Credit (HELOC)?

A home equity line of credit (HELOC) also taps your home’s equity but works more like a credit card. With a HELOC, you have ongoing access to a revolving credit line up to your approved limit.

You can draw from your available credit as needed. During a HELOC’s draw period, you make monthly payments on the current balance. After the draw period, usually 10 years, the HELOC enters a repayment period with higher monthly installments.

HELOCs have variable interest rates tied to an index like the prime rate. Your rate and payment change when that index changes.

How Much Can I Borrow?

The amount you can borrow depends on factors like:

Your home’s value and available equity
Your credit score and history
Your debt-to-income (DTI) ratio
The lender’s underwriting policies

Many lenders let you borrow up to 80-85% of your home’s value minus what you owe on your first mortgage. So if your home is worth $300,000 and you owe $180,000 on your primary mortgage, you may qualify to borrow around $90,000 to $102,000.

HELOCs often have lower maximum borrowing limits than home equity loans. Ask your lender about its policies.

What Are the Benefits of Home Equity Loans?

Potential benefits of home equity loans include:

Competitive rates: Home equity rates are often lower than rates for personal loans or credit cards because your home secures the debt.
Fixed payments: Home equity loan payments stay the same over the full repayment term.
Interest may be tax deductible: You may be able to deduct your home equity loan interest on your tax return.
Access equity: Tap your home’s equity without selling or refinancing your property.
Consolidate debt: Pay off higher-rate debts with a lower-cost home equity loan.

What Are the Drawbacks?

Downsides of home equity borrowing may include:

Closing costs: Although low or no closing costs are common, you may pay appraisal or application fees.
Risks your home: Not repaying the loan could put your home ownership at risk.
Prepayment penalties: Your loan may charge fees if you pay off the balance early.
Variable rates on HELOCs: HELOC rates and payments fluctuate, making monthly costs less predictable.
Repayment period limits: Failing to pay off a HELOC’s balance by the repayment deadline can trigger demands for a large “balloon” payment.

What Are Common Home Equity Loan Uses?

Homeowners often use home equity loans or HELOCs to finance:

Home improvements, repairs, or renovations
Major personal expenses like medical bills
College tuition
Weddings or other events
Debt consolidation
Emergency funds
New vehicle purchases
Vacations or other discretionary purchases

What Credit Score is Needed?

Each lender sets its own home equity underwriting standards, but many look for a minimum credit score around 620. Borrowers with scores of 700 or above tend to qualify for the best rates.

Some lenders may approve borrowers with lower credit scores, but likely at higher interest rates or with smaller loan amounts.

How Do I Qualify for a Home Equity Loan?

Typical eligibility requirements include:

Credit score/history: Lenders check your credit reports and scores. Good credit increases approval chances.
Debt-to-income ratio: Lenders review your current debts versus income. Lower DTIs help demonstrate you can afford another payment.
Loan-to-value ratio: Your loan amount compared to home value. Lenders limit lending to percentages of your equity.
Home value: You must have sufficient equity to support the loan amount sought.
Employment/income: Documented income helps show you can repay the debt.
Homeownership: You must own the home used as collateral.

Should I Choose a Fixed or Variable Rate?

Home equity loans have fixed interest rates that don’t change. HELOCs have variable rates that fluctuate along with an index like prime rate.

Going fixed provides payment predictability but gives up the potential savings of a variable loan if rates decline. CHOOSE offers payment flexibility but introduces some rate uncertainty.

Many lenders let you lock HELOC rates for a fixed period. You can also convert outstanding HELOC balances to fixed rates.

How Do I Apply for a Home Equity Loan?

You can apply for home equity financing through:

Your current mortgage lender or servicer
Your bank or credit union
An online lender like LendingTree
A mortgage broker

To start the process, inquire with a few lenders about loan options, rates, and fees. Then submit a home equity loan application including documents that verify your income, debts, credit, and home value.

After approval, you’ll close on the loan and receive your funds. Closings often occur within a month.

What Closing Costs Are Involved?

Closing costs are typically lower for home equity loans versus primary mortgages. Many lenders offer products with no upfront closing costs.

Possible fees may include:

Origination or application fees
Appraisal charges
Attorney fees
Recording or processing fees
Title insurance

Closing costs often range from 0 to 5% of the loan amount. Property taxes and homeowner’s insurance premiums may also be included in your monthly payments.

Can I Pay Off a Home Equity Loan Early?

Many home equity loans let you pay off the balance early without penalties. However, some charge prepayment penalties if you pay the loan off within the first few years of the term.

Always verify the lender’s prepayment policy before committing to a home equity loan. Paying interest upfront or taking a longer term can sometimes avoid early payoff fees.

The Bottom Line

While home equity loans make financial sense for some borrowers, they aren’t right for everyone. Consider both the benefits and risks carefully before moving forward. Crunch the numbers to confirm you can afford the monthly payments over the long run.

Thoroughly read the loan agreement and ask questions before signing. Shop multiple lenders to find the best home equity loan or HELOC rates and terms for your situation.

Home Equity Lines of Credit (HELOCs)

A home equity line of credit (HELOC) is an adjustable or variable-rate loan that works like a credit card. Sometimes, these loans come with a credit card that the borrower can use for purchases on the line of credit. Borrowers are pre-approved for a certain spending limit and can withdraw money when they need it via a credit card or special checks.

Monthly payments vary based on the amount of money borrowed and the current interest rate. The draw period, usually five to 10 years, is followed by a repayment period when draws are no longer allowed, generally 10 to 20 years. Though HELOCs typically have a variable interest rate, some lenders may convert to a fixed rate for the repayment period.

Popular usages for home equity loans include paying off credit cards, home improvements, and paying for college.

Reloading

Unfortunately, this scenario is so common that lenders have a term for it: “reloading,” which is the habit of taking a loan to pay off existing debt and free up additional credit, which the borrower then uses to make additional purchases. Reloading can lead to a spiraling cycle of debt that often convinces borrowers to turn to home equity loans offering an amount worth 125% of the equity in the borrower’s house. This type of loan often comes with higher fees because, as the borrower has taken out more money than the house is worth, the loan is not secured by collateral.

If you are contemplating a loan worth more than your home, it might be time for a financial reality check. Were you unable to live within your means when you owed only 100% of the value of your home? If so, it will likely be unrealistic to expect that you’ll be better off when you increase your debt by 25%, plus interest and fees. This could become a slippery slope to bankruptcy.

HELOC Vs Home Equity Loan: Which is Better?

FAQ

What is the downside to a home equity loan?

Home Equity Loan Disadvantages Higher Interest Rate Than a HELOC: Home equity loans tend to have a higher interest rate than home equity lines of credit, so you may pay more interest over the life of the loan. Your Home Will Be Used As Collateral: Failure to make on-time monthly payments will hurt your credit score.

What is the monthly payment on a $50,000 home equity loan?

Loan amount	Monthly payment
$25,000	$166.16
$50,000	$332.32
$100,000	$673.72
$150,000	$996.95

What are the rules with taking out a home equity loan?

Home equity loan requirements Qualification requirements for home equity loans will vary by lender, but here’s an idea of what you’ll likely need to get approved: Home equity of at least 15% to 20%. A credit score of 620 or higher. Debt-to-income ratio of 43% or lower.

What is the monthly payment on a $100,000 home equity loan?

If you took out a 10-year, $100,000 home equity loan at a rate of 8.75%, you could expect to pay just over $1,253 per month for the next decade. Most home equity loans come with fixed rates, so your rate and payment would remain steady for the entire term of your loan.