This useful guide to home mortgage refinancing and home equity loans includes tips on where to find the lowest mortgage rates, mortgage calculators, where to apply for online mortgages, and mortgage company reviews. You’ll also find scams and loan fees to avoid, dealing with mortgage brokers, and tips to increase your approval chances for a mortgage loan or a second mortgage. We also review the top sites for you to comparison shop for the best mortgage rates like Quicken Loans.
Home-equity debt gives you a way to take out a “personal loan” but maintain the ability to turn the interest you pay into a tax deduction. People use home-equity debt for various purposes such as home improvements and debt consolidation. There are 3 major types of home-equity debt which are defined in this section.
Common reasons people refinance their homes:
Interests rates dropped so a new mortgage is taken out to replace the older one, which was at a higher rate.
Borrow against the equity in the house to pay off credit cards and other debt.
Home equity line of credit to make repairs and home improvements.
Definition of Equity
The dictionary defines equity as “The residual value of a property beyond any mortgage thereon and liability therein.” What this really means is that equity is the amount of cash your house is worth if it was sold today, and if the mortgage was paid off, and any other liabilities are paid off. Naturally, as the property values in your neighborhood increase, so does your equity, because this means that you would be left with more cash after selling the house and paying off a mortgage. With home equity loans and other home refinancing, you don’t sell your house, you just borrow against the equity in it. This is why banks send an appraiser to determine what your house is worth when you apply for a home equity loan. Sometimes you pay for this $200-$300 charge, sometimes the bank pays, it all depends how eager they are for new business.
Putting Equity to work for you
Here is a nice financial maneuver that I once pulled off. I got a mortgage with only 10% down, so I had to take out PMI, which is Private Mortgage Insurance, costing over $70 per month extra in my mortgage payments. Within 2 years, our property value had gone up enough that I petitioned the bank to send an appraiser to my house to valuate it. My property value had gone up enough that I was now past the 20% equity mark, and the bank dropped the monthly PMI fees from my payment. I then kept on sending in the same $70 a month as extra principle, which helped pay off the house even faster. But just think how many fools out there never think to do this, and pay PMI forever not knowing it could have been removed in a year or two.
Of course, everything in life has a negative attached to it and home-equity debt is no different. There are a few things that you have to watch out for.
DON’T BORROW MORE MONEY THAN THE EQUITY IN YOUR HOME!
Unscrupulous lenders keep sending you offers in the mail. “We’ll lend you up to 125% of the value of your home!” Wow, you just struck oil! This is dangerous oil however. If you default on the loan, not only do you lose your house, but you still owe the other 25%. Lenders who offer these risky loans are in it only for their own greed. Because they are writing higher loan values, they group them together and sell the portfolio to institutional investors, their hands are washed of it and so what if you default, they made their money & moved on to the next group of borrowers.
Also, you cannot write off interest on the portion of the loan that is in excess of the value of your home. Which brings up our next point:
Any bank with a conscience will only lend you up to 80% of the equity in your home. They send out an appraiser to get an accurate value of your house, then they determine how much equity you have in the house, and lend you up to 80% of that value. This is the safest way to do a home equity loan. You must evaluate whether an equity loan makes sense for your financial situation.
If you are using the loan to eliminate debt you have to compare the second mortgage interest rate including loan fees if any against the interest rate APR of the debt you are trying to eliminate. For example, if you have $20,000 of credit card debt, it’s most likely at 19%, but your home equity loan could be between 8% to 12%, depending on market conditions. In this case, it would most likely make sense to get the second mortgage on your home to payoff those cards and other high interest debt like an old car loan that you might have been ripped off on. Just make sure you close those credit card accounts when you pay them off! Borrow only enough to payoff the accounts in full. You might not be able to borrow enough to pay off as much as you can but don’t straddle the cash across all your accounts. Use it to payoff your highest interest rate cards, and close them out. A great feature of 2nd mortgages is you can usually write off the interest expenses from your taxes, effectively making the APR even lower. But check with your accountant to make sure your income level allows this.
If you are using the equity debt for home improvements, carefully analyze your finances and make sure you’ll be able to handle the additional monthly expense.
Types of Home Equity Debt
The major types of home equity debt are explained below.
Refinancing is basically taking out a whole new mortgage at the currently prevailing interest rates. Since you have already built up equity in your home you can take out the new mortgage for more than you still owe and use the extra cash for other purposes like home improvements. During times of falling interest rates, this may be an excellent time to refinance your home and save money that you are now sending in towards bank profits. If you are thinking about refinancing, you should try an online site like Quicken Loans to get quotes before checking with your local bank. Just like with any loan or purchase you make it is a good idea to shop around for the best deal and get quotes from as many sources as possible. After all, it’s free to apply at Quicken Loans and they just might save you a boat load of cash.
2nd Mortgage (also referred to as a Home Equity Loan)<h3.
Unlike a home equity line of credit, a 2nd mortgage is a fixed amount of money that you borrow against the equity in your home. A second mortgage does not change the interest rate on the amount still owed on your home. It is a completely separate loan from your 1st mortgage. Generally 2nd mortgages carry a higher interest rate than first mortgages regardless of whether they are fixed rate or adjustable rate. The lump sum cash that you get can be used for many things such as home improvements or debt consolidation. Just like with a 1st mortgage you should comparison shop for the best rates at a site like Quicken Loans.
Home equity line of credit
With a line of credit you apply for an amount which you may borrow against your home value however you do not have to borrow the entire amount at once. For example, you may receive a $40,000 line of credit but only need $6,000. In this case you can just take out $6,000 and save the remaining $34,000 (which you are not paying interest on) for a later date when you need it. Repayment terms are usually pretty flexible and may include interest only payments for a certain period of time. Online sites like Quicken Loans offer home equity lines of credit.
Where To Apply For Home Equity Debt
If you are thinking about applying for any type of home-equity debt, you should first read our chapter Organize Your Files Before Applying For A Mortgage. It explains everything that you need to do before you apply for home-equity debt including checking your credit report and getting your credit score. Equifax now offers a credit report that includes your real Fair Issac (FICO credit score) which used to be hidden from you. This score will really let you know how good (or bad) your credit is. If your score is not as good as you had hoped, it is probably a good idea to get a merged credit report which has information reported by all 3 credit bureaus.
Below is a list of reputable online sites where you can apply for an equity loan, line of credit or refinance. You should fill out the free application from each one and compare to see which gives you the best deal. Maybe your local bank will have the best deal but you’ll never know that a better deal was out there if you don’t shop around.
Don’t be afraid about applying for Equity Debt online. Information transferred to secure sites is extremely safe and can not easily be intercepted by anybody so you should not be worried about information security.
Other Types of Home Equity Debt
There is one other type of loan that can be considered equity debt that we would like to mention. It is called a reverse mortgage.
Be very careful with this type of mortgage! This is generally a type of loan that is used by elderly property owners who have their property paid off. It is a way to “unlock” the equity that they have built up in that property. A reverse mortgage is where the lender will pay you either a lump sum amount, or make monthly payments to you. The amount that you owe the lender increases over time, and no payment is due until the term of the loan is up. When the loan becomes due, the total amount paid to you, plus the interest on that amount becomes due in full. This lump sum payment is usually paid for by selling the property.
You are able to derive income from the equity of the property that you are living in. Enhance the monthly income for retired people who plan on selling the property when (or even before) the loan term is up. Monthly income derived from this type of mortgage is tax free.
If the value of the house decreases, you may be responsible for more debt than the house is worth. The lump sum amount that is due when the loan term is up, is generally paid for by selling the property. Once again, this is a very specialized type of mortgage and should not be entered into unless you know exactly what you are doing!