If you’re a homeowner and need to borrow money for a renovation or other large expense, you may be considering getting a loan. Personal loans and home equity loans vary in a few ways, presenting different risks and rewards.
Read our guide to learn more about how they differ and how you can compare your options to make the best choice for your financial situation.
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Home equity loans and lines of credit let you capitalize on the equity you have in your existing home. They enable you to utilize the capital gains of your house without needing to sell it. Your home equity is essentially the current value of your property minus the mortgage you owe.
Current home value – mortgage = home equity
In Canada, you can borrow up to 65% of the value of your home. This means if your home is worth $500,000, you can access up to $325,000. But, any outstanding mortgage balance plus your home equity loan or line of credit cannot equal more than 80% of your homes value. So if you’ve only paid $100,000 on your $500,000 home, you wouldn’t be able to borrow any money because you simply don’t own enough equity in your home. If you’d paid $200,000 on your mortgage, you’d be able to borrow up to $100,000 through a HELOC.
How much can I borrow?
Here’s how to figure out how much you can borrow with a home equity loan or line of credit:
Take the value of your home and multiply it by 0.8 (0.8 represents the maximum amount of 80%).
From this number, subtract the balance of your mortgage.
The remaining amount is the amount you’d be able to borrow – as long as the amount does not exceed 65% of the value of your home.
What you need to know about personal loans
Personal loans usually come either secured or unsecured.
Secured personal loans require you to list a valuable asset as collateral, such as equity in your home or your car, in order to guarantee the loan.
You can also usually choose between two types of interest rates:
Fixed rate personal loans have interest rates that stay the same throughout the loan term. This means your repayments will be the same every month throughout the entire term of your loan.
Variable rate personal loans change throughout the term of the loan, usually starting out with a lower interest rate than their fixed rate counterparts. There is, of course, the possibility that the interest rate will increase over time.
Here are a couple of things to keep in mind:
Most personal loan lenders only offer borrowing amounts up to $35,000 (and sometimes slightly higher), whereas you’ll likely be able to borrow up to 80% of the value of your home, which could be a lot higher than $35,000.
However, even with an equivalent interest rate, a personal loan may be the cheaper option. Large monthly payments combined with a loan term of five or seven years means that the interest you’ll be paying on a personal loan will be less than the interest you’ll pay on a home equity loan.
Compare your personal loan options
Main differences between personal loans and home equity loans
Home equity loan
None, if unsecured
Generally 4% to 36.00%
Generally 3% to 8%
Usually 1-10 years
Usually 10-30 years
Maximum loan amount
Can be up to $35,000, sometimes higher amounts up to $100,000
Up to 65% of your homes value (Your mortgage + HELOC cannot be more than 80% of your homes value)
Which is better for you — a personal loan or a home equity loan?
Both home equity loans and personal loans offer specific benefits, as well as drawbacks.
Personal loan pros:
Useful if you don’t have any assets to guarantee a loan.
Generally offer shorter loan terms, making the total loan cost cheaper.
Personal loan cons:
Interest rates are usually higher than those offered for home equity loans.
There will likely be associated fees.
Home equity loan pros:
Useful when you have a decent amount of equity in your home.
Typically offer lower interest rates than personal loans.
Home equity loan cons:
Will usually cost more than a personal loan since the loan term is much longer.
There will be associated fees.
4 questions to ask when choosing a loan
Making a financial decision can be tough when you have plenty of options and little guidance. Consider asking yourself these questions when deciding on the right loan for your needs:
Why do you need the loan? The purpose of the loan should weigh heavily in your decision to take out a home equity loan or a personal loan. If your debt is currently unsecured — usually as credit card debt or other, smaller loans — you may want to take out a personal loan rather than risk using your house as security. Conversely, home renovation projects that invest more value back into your home may be a worthwhile use of a home equity loan since you may save money on interest.
How much do you need to borrow? Since the equity in your home is the amount your property is worth minus the amount you currently owe, you may not have enough equity built up to cover a large loan. If you don’t have enough equity to cover what you need to borrow, then you may want to apply for a personal loan.
Do you have the time to take out a second mortgage? Personal loan approvals are fast, especially when you opt for a nontraditional lender — like an online provider. Home equity loans take much more time and are essentially a second mortgage against your home, meaning you have to fill out more paperwork and wait for a bank to process it.
Are you okay with using your home as collateral? Using your home as collateral is risky business. If you’re unable to pay your loan back, your lender has the right to foreclose on your home — leaving you with debt and no roof over your head. A home equity loan should only be borrowed if you know you’ll have the money to pay back what you owe. Otherwise, an unsecured personal loan may be the better decision.
Monthly payment vs. repayment period
Consider that you’re five years into your 30-year mortgage and you need a loan of $20,000.
A secured personal loan has an interest rate of 8.90% while a home equity loan has a rate of 6.39%. Your monthly mortgage payments will increase by $150 if you take on the home equity loan, which is less expensive than the $321 payment for the personal loan.
However, over the life of your mortgage, you’ll pay more in interest on the home equity loan than you would on the personal loan. Even though the interest rate is higher on the personal loan, it will still be cheaper in the long run.
The decision rests in whether you want lower monthly payments or a less expensive loan.
Consider the interest when comparing personal loans and home equity loans
It’s worth noting that the longer you carry your debt, the more you pay in interest. That’s why choosing a loan with the shortest repayment term you can afford usually saves you money in the long run.
Borrowing against your home’s equity too frequently could be costly. Carefully examine the terms to see if a personal loan with a shorter repayment period might work better for you.
Home equity loans can take up to two weeks to be processed by the lender and another few weeks for the funds to be disbursed. Depending on how soon you need the money, a personal loan might be able to get you the funds you need more quickly. Personal loans usually take anywhere from one day to a few weeks, again depending on the lender.
Different lenders have different maximum loan amounts. Check out the amounts offered by a variety of different lenders in order to compare your options.
A home equity loan is calculated based on how much equity you have in your home. If you don’t have enough equity in your home to qualify, you can compare your options for a personal loan to get the funds you need.
Aliyyah Camp is a writer and personal finance blogger who helps readers compare personal, student, car and business loans. Aliyyah earned a BA in communication from the University of Pennsylvania and is based in New York, where she enjoys movies and running outdoors.
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