Moneyzine
Contents
/Personal Finance/Home Equity Loans

Home Equity Loans

Moneyzine Editor
Author: 
Moneyzine Editor
2 mins
September 25th, 2023
Advertiser Disclosure

Definition

A home equity loan is an agreement between a lender and homeowner, whereby the loan is secured using the home as collateral. Home equity loans are sometimes referred to as second mortgages, which would be subordinate to any existing mortgage on the home.

Explanation

As the name implies, home equity loans use the equity in a home to secure a loan with a lender. Unlike a mortgage, a home equity loan cannot be used to purchase a home. These loans are structured like mortgages and personal loans and typically involve fixed rates and repayment terms that can be as long as 30 years. The loans are also written for a fixed amount, making them less flexible than home equity lines of credit.

Lending institutions will usually allow the borrower to take out a loan of up to 80% of the equity in a home. The amount of equity in a home is determined by taking the current market value of the home and subtracting all of the outstanding loans that are using the home as collateral.

As is the case with a mortgage, a home equity loan lowers the total amount of equity in a home. The interest charges associated with these loans is usually tax deductible. Since the home is used as collateral on the loan, if repayment is not made on schedule, foreclosure is possible.

Example

The market value of Elyssa's home is $500,000, and the remaining principal on her mortgage is $300,000. Elyssa would like to get her teaching degree, so she's looking for a home equity loan to help pay for school.

If her income allows, the lender has agreed to provide a loan up to 80% of the equity in the home. Elyssa's maximum loan would be calculated as:

= (Market Value of Home - Loans Using Home as Collateral) x 80%

= ($500,000 - $300,000) x 0.8 = $200,000 x 0.8, or $160,000

In this example, Elyssa could borrow up to $160,000 if her annual income supports an additional loan of that size.

Related Terms

Related Content

How to Make a Million Dollars in 10 Years
Truthfully, this title should actually be “How to Make a Million Dollars in 10 Years Without Going Into Debt", but that is just getting a little too winded for my liking. It’s true though!
March 26th, 2024
How to Apply Maslow’s Hierarchy to Your Money This Year
You might vaguely remember your psychology teacher talking about Maslow. He pointed at a picture of a triangle as you nodded off in the back of the school room.
March 27th, 2024
How to Tackle Multiple Savings Goals
When there’s only so much money to go around, there are often multiple savings goals competing for your money. Think of the young professional who’d like to get a more reliable car, buy a house, and save for retirement. Or consider the young family that’s saving for college, retirement, and a bigger house.
March 22nd, 2024
The Countdown to Early Retirement: 10 Expenses to Eliminate
Dreaming of waving goodbye to the daily grind five years ahead of schedule? The road to early retirement is paved with more than good intentions; it requires a meticulously crafted strategy with surprising twists. It's not solely about what you should be doing—like diligently saving a portion of your income or investing wisely—but also about what you need to stop doing.
March 22nd, 2024
What’s Your One Page Financial Plan? Mapping out Your Future
“What’s your one page financial plan?” — This is the absolute best question that I’ve heard asked in a long time. Instead of talking about your hot stock pick or your fancy investment that shields you from paying taxes, I think it’s time for all of us to step back and ask ourselves the most intelligent question of all, “Why the heck do I care about money anyway??”
March 14th, 2024

Contributors

Moneyzine 2024. All Rights Reserved.