Top Five "Must Do's" for Home Equity Loans

Home equity loans are a wonderful source of available cash or credit, especially if your property has appreciated in value. But before you tap your equity, explore your options to get a good understanding of how various home equity loans work, and how each differs from the other.

Home equity loans come with various rates and options, and in many different packages. Before you take advantage of the equity in your home by borrowing against it, consider these five points to help you make wise choices.

1. Know the difference between a home equity loan and a HELOC

Home equity loans work like a typical mortgage, where you borrow a lump sum and pay it back in regular monthly installments. The home equity line of credit (HELOC) functions more like a credit card, where you borrow as much as you desire whenever the need arises. Ask your lender to explain the features and costs of both, and pick the one that best fits your needs.

2. Consult a variety of lenders

Lenders have become highly competitive and will often make concessions or offer perks in order to gain or retain your business. They also have different types of home equity loans. Browse around until you find the loan that appeals to you the most.

3. Compare HELOC/home equity loan and mortgage refinance costs

Closing costs and rates will vary depending upon what kind of home equity loan or refinance you use. If you compare a HELOC to a mortgage refinance, you might discover that the refinance costs might be higher, but the interest paid might be lower. Study the pros and cons of each and you'll be able to make the appropriate financial choice.

4. Examine the numbers strategy

Many people choose to take a home equity loan plus a first mortgage in order to avoid private mortgage insurance (PMI). However, it may not always be your best alternative. Sometimes you're better off making a larger down payment or refinancing to avoid PMI; but other times, it makes more sense to use a "piggyback" loan strategy. Crunch the numbers-consider how long you plan to stay in the home and how much interest you'll pay. Then, make an informed decision.

5. Know how your HELOC adjusts

HELOC loans have adjustable rates. When they rise, it can dramatically affect your payments. Some have low introductory rates that later go higher. Some have unlimited caps, and can go as high as 18 percent. Examine your HELOC carefully, and you can avoid unwanted surprises.

If new questions about home equity loans arise along the way, ask your lender to explain things in a clear and easy-to-understand fashion. Knowledge is power. Armed with the right information you can make savvy decisions that will pay off now as well as into your foreseeable financial future.