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6 things to consider before applying for a home equity loan

Posted by  on Mar 27, 2012
 

A home equity loan or home equity line of credit (HELOC) can be a way to help you pay college tuition, make home repairs or take care of other financial obligations. But tapping home equity also could push you deeper into debt. That's why it's important to have a really good reason for getting a home equity loan.

Here are six things to consider before applying for a home equity loan or credit line:

1. You might not be able to pay it back

Before applying for any more credit lines, take the time to put together a monthly budget. Many people overlook this important step, then find out later that they overestimated their ability to make monthly payments. Without a budget it is easy to spend more on miscellaneous expenses, which can take away from money that could go toward home equity loan payments.

2. Refinancing your mortgage loan could be a better option

With America experiencing some of the best mortgage rates ever, refinancing could potentially save a bundle of money over the life of your loan. Doing a home refinance could decrease your mortgage payments enough to give you the extra cash you need each month without having to set up a home equity loan or HELOC.

If you're considering refinancing to cash out equity and not simply lower your monthly payment, be aware that many mortgage lenders are turning down borrowers who want to do a cash-out refinance, even if they have great credit.

3. You could end up underwater

Even if you still have equity in your home, there is no guarantee that home values in your area won't decline more than they likely already have. For instance, your home value would be affected by a wave of foreclosures in your area. Cashing out now could be a mistake if you are left with little equity.

4. You may not get approved

Even if you have good credit, it's likely you'll have a tough time borrowing money in this lending climate. Be prepared to have your income, assets and other financial information examined very closely by lenders. Be prompt when asked for documents to keep the application process moving along.

5. You could end up with a balloon payment

Many HELOCs are structured so that you make low payments for several years, then owe a large payment at the end of the term to pay off remaining principal. You may be able to refinance a HELOC into a fixed-rate loan down the line, so make sure you understand any rules the lender has for doing this.

6. It may be better to save up for what you want

Depending upon your reason for needing cash, it may make more sense to save up for your purchase. Setting aside funds each week or month out of your paycheck will keep you from taking on new debt and force you to be more disciplined with money.

There are pros and cons to getting a home equity loan or home equity line of credit. If you are leaning toward borrowing money, take the time to shop around for quotes from several lenders to get the best loan package.

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