Learn about home equity loan qualifications and how to get approved with our comprehensive guide. Loan Amount
A home equity loan can be a good way for you to take advantage of the value built up in your property – but not everyone will be able to qualify.
While every lender has its own requirements, to qualify for a home equity loan, you’ll typically need:
Getting preapproved for a home equity loan can save you time and stress when you’re ready to tap into your home’s equity By taking the steps to get preapproved in advance, you’ll know exactly how much you can borrow before you start shopping around
As of 2024, home equity loan rates are still near historic lows, making now an ideal time to leverage your equity for home improvements, debt consolidation, or other major expenses. Follow this simple 7-step guide to get prequalified and find the best home equity loan for your needs.
1. Check Your Home Equity
Before applying for preapproval you need to know how much equity you have available to borrow against. To calculate this
- Take your home’s current market value
- Subtract the amount you still owe on your mortgage
- The remainder is your equity
For example, if your home is worth $300,000 and you owe $180,000, your equity is $120,000.
Lenders typically let you borrow up to 85% of your equity. So in this example, you could qualify for around a $102,000 home equity loan (85% of $120,000).
2. Review Lending Requirements
Most lenders require a minimum credit score of 620-640 and a debt-to-income ratio below 45% to qualify for a home equity loan. Some lenders are more flexible, approving borrowers with credit scores as low as 580.
Make sure you meet the basic requirements before applying. This will help you avoid unnecessary hard inquiries on your credit report.
3. Check Your Credit Reports
Before applying, it’s wise to check your credit reports for any errors or discrepancies that could impact your approval odds or interest rate.
You can get free copies of your reports from AnnualCreditReport.com. Review all three reports closely and dispute any incorrect information.
This step is optional but can potentially improve your rate quote.
4. Compare Home Equity Lenders
Rates and fees vary significantly between home equity lenders. Comparing loan estimates from at least 3 lenders helps ensure you get the best deal.
Focus on the APR (annual percentage rate) when comparing quotes, as this accounts for both interest rate and fees. The lender with the lowest APR will have the lowest overall costs.
5. Submit a Prequalification Application
Once you’ve identified some top contenders, it’s time to submit prequalification applications. This process is simple and lets lenders evaluate your eligibility before completing full underwriting.
At this stage, you’ll need to provide details on income, debts, credit scores, and property value. Lenders will often request proof of income and your mortgage statement.
The prequalification process is “soft” and doesn’t require a hard credit check, so it won’t impact your scores.
6. Review Your Prequalification Letters
Within a few days, lenders will provide prequalification letters listing the maximum loan amount and estimated rate/fees you may qualify for.
Scrutinize these letters to find the lender offering the largest loan, lowest rate, and best terms for your situation.
7. Proceed to Full Application
Once you decide on a top lender, you can proceed to submitting a full application and undergoing underwriting.
This involves providing extensive documentation on income, debts, and assets so the lender can verify you meet all requirements. There will also be an appraisal to confirm your home value and a hard credit check.
If approved, you’ll receive a final loan estimate outlining your interest rate, monthly payment, and closing costs. Then it’s just a matter of signing documents and securing your funds!
Following these 7 steps will streamline the preapproval process and set you up for success. Be sure to allow at least 2-3 weeks from initial application to closing. With proper planning, you can tap into your equity with minimal hassle.
Frequently Asked Questions about Home Equity Loan Preapproval
Getting preapproved for a home equity loan opens up lots of questions for first-time borrowers. Here are some of the most common FAQs:
How long is a home equity loan preapproval valid for?
Most home equity loan preapprovals are valid for 60-90 days. If you don’t finalize your loan within that window, you’ll have to reapply and undergo credit checks again.
What documents do I need for preapproval?
Typical documents include a driver’s license, tax returns, pay stubs, mortgage statement, credit report, and possibly bank statements. Provide recent versions covering the last 2-3 months.
Does preapproval obligate me to accept the loan?
No. Preapproval simply estimates what terms you may qualify for. You have no obligations until you submit a full application and sign final loan documents.
Will preapproval affect my credit score?
Prequalification and preapproval don’t require a hard credit inquiry, so they won’t impact your credit scores. However, your scores may drop a few points after the hard pull done during full underwriting.
Can I get preapproved with a cosigner/co-borrower?
Yes, some lenders allow co-borrowers on home equity loans. Adding a cosigner with better credit may help you qualify and improve your rate. Make sure all co-borrowers submit income/credit documentation.
How accurate are preapproval estimates?
Preapproval provides a general idea of potential loan terms but isn’t guaranteed. Your final APR and fees may differ based on appraisal value, underwriting, and loan amount. Don’t rely solely on preapproval terms when budgeting.
Getting preapproved for a home equity loan takes some legwork but sets you up for success. Be sure to shop around, scrutinize preapproval letters, and proceed promptly once you find your best option. With the right lender, you can seamlessly tap equity to achieve your financial goals.
A Deeper Dive Into Requirements for a Home Equity Loan
A home equity loan, often called a second mortgage, allows you to borrow against the equity you’ve built up in your home. Equity is the difference between the current market value of your home and the outstanding balance on your mortgage.
Below is a list of several standard criteria used to determine one’s eligibility for a home equity loan. These requirements ensure that both you and the lender are entering into a responsible financial arrangement.
While specific requirements may vary among lenders, most prefer you to have enough equity, typically a minimum of 20%, in your home before applying for a home equity loan, according to the Federal Trade Commission.
You can estimate your home’s current market value by contacting a real estate agent or reviewing recent comparable sales in your area. After determining your home’s appraised value, subtract the remaining balance on your current mortgage from your home’s market value. The result is your home’s equity.
To get approved for a home equity loan, you’ll likely need a professional appraisal to determine the actual equity you’ve built in your home.
This equity also limits how much you can borrow. Lenders generally want to leave you with 15% to 20% equity in the home after your new home equity loan is factored in.
So, for example, say you have a $350,000 home with $150,000 outstanding on your mortgage. Your equity is $200,000, but you can’t borrow that full amount. Instead, you’ll often be limited to around $130,000 – which combined with your $150,000 mortgage balance would leave you with 20% equity in the home.
Credit scores provide lenders with an indication of your creditworthiness, helping them assess the risk of lending to you. For home equity loans, your credit score is a significant determining factor in whether you’ll be approved and the terms you’ll receive.
Most lenders prefer you to have a good to excellent credit score, typically ranging from 700 to 749 or higher, according to credit rating agency Experian. Credit scores in the 700s are more likely to secure competitive interest rates and favorable loan terms. You may still qualify if your score falls between 620 and 699, which is considered fair. Still, your options may be limited, and you might face higher interest rates.
For those with credit scores below 620, obtaining a home equity loan from traditional lenders can be challenging. However, specialized lenders or credit unions may consider applicants with lower scores, though less favorable terms and higher interest rates may apply.
Several critical factors determine your credit score, including your repayment history, credit utilization, the length of your credit history, applications for new credit accounts and how diverse your mix of credit is. The most influential factor is your repayment history, with timely monthly payments boosting it and late payments or defaults hurting it.
When considering a home equity loan, it’s not just about your home’s value and credit score. Lenders also closely examine your debt-to-income ratio (DTI) to determine your eligibility. Your DTI ratio assesses the percentage of your monthly income allocated to debt payments, enabling lenders to evaluate your capacity for handling additional loan payments.
To calculate your DTI, add up all your recurring monthly debts, such as mortgage payments, credit card minimums, student loans and auto loans, and then determine your monthly income from various sources like your job, rental income and investments. Your DTI ratio is expressed as a percentage by dividing your debts by income and multiplying the result by 100.
Generally, lenders accept a maximum DTI ratio of around 43% for home equity loan approval, under rules from the Consumer Financial Protection Bureau. So ensure that your total monthly payments, including the new home equity loan, remain below this threshold.
Lenders typically look for a stable employment history when evaluating your eligibility for a home equity loan. While specific requirements can vary, many lenders prefer you have been at your current job for at least two years.
In addition to the length of time you’ve been employed at your current job, lenders also assess the stability of your income history. They want to see that your income has been consistent and reliable. Frequent job changes or gaps in employment can raise concerns for lenders, potentially impacting your approval chances.
To demonstrate your income to lenders, you’ll need to provide documentation that shows you have the financial means to repay the loan, including your pay stubs, tax returns, bank statements, employment verification and other sources of income.
It’s essential to be thorough and organized when documenting your income, as this information is critical in the loan approval process. Be prepared to provide clear and accurate records to support your application.
>> Related: Learn more about the best home equity loan rates
Getting Preapproved for a Home Equity Loan
During the preapproval process, a loan officer will assess your financial information, covering aspects such as your credit score, income, employment history and existing debts.
Through this evaluation, you gain insights into your eligibility for a home equity loan, including factors like your credit score, income and current home equity value. Preapproval also yields an estimate of the maximum loan amount you may qualify for based on your financial situation and lender guidelines.
Additionally, while it’s not a guaranteed rate, preapprovals provide an estimate of the interest rate you might receive, enabling you to better plan for your loan payments. If your preapproval terms are less favorable than desired, the loan officer may be able to offer guidance on strengthening your financial profile to enhance your approval prospects or secure more favorable terms.