Home Renovations: HELOCs vs. Home Equity Loans

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Inflation and rising interest rates may mean paying closer attention to your budget. But when it comes to securing cash to cover major expenses like home renovations, homeowners have an advantage: home equity. You can calculate home equity by subtracting the balance you owe on your mortgage from the appraised market value of your property. As you pay off your mortgage and your home appreciates in value, your home equity increases.

You can leverage this equity through two popular types of loans: home equity loans and home equity lines of credit (HELOCs).

Home equity loans are often called “second mortgages” and are paid out as a singular lump sum.

HELOCs operate as a revolving line of credit, so you can draw on it as needed rather than taking one lump sum as long as you pay it down as you go. You don’t pay for any money you don’t use.

Both types of loans are secured against your property, so they tend to have lower interest rates compared to other types of credit. The caveat is that your home is the collateral, so you only want to take out a home equity loan or HELOC if you’re sure you can pay it back in full, on time.

Which Loan Is Right For You?

HELOCs and home equity loans are similar to personal loans, which you can also borrow from a bank, credit union, or other financial institution, and which may also allow you to cover significant costs.

If you have no property to borrow against, a standard personal loan is the only one of these options available to you. It’ll be disbursed as a lump sum that has to be paid back, with interest, over a set term.

If you do have home equity, then you can consider a home equity loan or HELOC. Let’s look at them in more detail.

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1. Disbursement and Repayments

We’ve already talked about how home equity loans and HELOCs are paid out to you. But what about how you pay them back?

With a HELOC, once the draw period ends, a repayment period follows, which typically lasts about 20 years. During that time, you must repay both principal and interest.

This differs from a home equity loan, in which the fixed repayment is determined at the outset, and monthly payments follow. Depending on the size of your loan, you may be done with it in as little as five years—or as many as 30, depending on how much money you borrowed.

2. Flexibility and Interest Structure

HELOCs are all about giving you access to as much or as little funding as you want within your funding limit. You can draw from your HELOC multiple times without having to reapply for a new loan. And some HELOCs offer interest-only payments, which allow you to manage and minimize your initial payments as needed. For example, you can make interest-only payments on Citadel’s HELOC during the initial 10-year draw period, or if you prefer, you may choose to make both principal & interest payments instead. At the end of your 10-year draw period, your balance will be amortized for repayment over a period of 20 years.

Home equity loans, on the other hand, are fantastic if you know exactly how much money you need. But once the funds are disbursed, the loan is closed, and additional borrowing will require you to refinance the loan or obtain a new one.

This “flexible vs. fixed” model also applies to the interest structures. HELOCs tend to come with variable interest rates, meaning monthly payments can fluctuate based on market conditions. Home equity loans will have the same interest for the entire loan term.

One Last Look Over the Pros and Cons

Here’s a quick review of the differences between home equity loans and HELOCs:

Home equity loans are predictable; one amount paid at one time, with one interest rate, makes for simple budgeting and a sense of stability. But they’re also rigid; you receive the entire loan at once, and a large sum can mean large interest payments.

HELOCs are flexible; they provide access to funds when you need them, and you only pay interest on what you’ve drawn. But with a variable interest rate, your monthly payments may change—even increase—over time.

As with any major financial decision, talking to a trusted financial advisor before you embark on a path is vital. But if you own your property, take comfort in the knowledge that home equity can provide a source of funds for home renovations and more.

Learn more about how to use your equity wisely.

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