You've heard about people using their homes as ATMs: they take out a home equity line of credit and buy a speedboat or take a trip through several continents (or high-end shopping malls). However, used with care, home equity financing can be a sound financial option.
Understanding the Risks of Home Mortgage Loans
A home equity loan or line of credit is a mortgage loan, which means that your lender has a security interest in your home. If you default, your lender can foreclose. Careful consideration before using home equity financing can help you avoid trouble. Financial advisor and columnist Liz Pulliam Weston cautions homeowners against "frittering away long-term wealth on short-term spending."
Home Equity Loan Rates Lower than Consumer Loan Rates
What are possibly sound reasons to take out a home equity loan or home equity line of credit?
- Debt consolidation. Homeowners often prefer to use home equity loans instead of unsecured personal loans or carrying high balances on credit cards. Consolidating debt with a home equity loan may work if you can avoid incurring more debt. Home equity loan rates are typically much lower than rates for consumer loans and credit cards. In addition, if you itemize deductions for your taxes, you can likely deduct the interest paid on a home equity loan, whereas interest is not deductible for credit cards and other consumer loans.
- Large, one-time emergency expenses. A home equity loan can help you meet one-time unplanned expenses such as medical bills or other emergencies. (Note: retail therapy doesn't qualify as an emergency.)
- Ongoing expenses for investments such as home improvements or education. A home equity line of credit (HELOC) works like a credit card. You're assigned a credit line, and can use as little or as much as you want up to your available credit. A HELOC can help you pay for recurring expenses such as lengthy home remodeling projects or tuition. Make sure you are spending the money on a worthy investment, however. Using a HELOC for impulsive purchases, trips, or frivolous expenditures can quickly diminish your home equity while adding to your debt.
Current mortgage rates are near all-time lows. Using a home equity loan in place of high cost consumer debt or for valuable investments can be a wise financial decision, but think carefully about the type of expense or purchase before you put your home on the line.
For more about how home equity loans and lines of credit can work for you, consider HSH's
"A Homeowners Guide To Home Equity Loans and Lines of Credit".
Karen Lawson is a freelance writer with extensive experience in mortgage banking and home loan loss mitigation programs. She holds BA and MA degrees in English from the University of Nevada, Reno.