Home equity loans, which practically disappeared over the past year following the collapse of the housing market, are making a bit of a comeback.

Though not nearly back to where they were a few years ago, home equity lines of credit (HELOCs) and loans are cautiously being offered once again by lenders encouraged by stabilizing home prices and signs of an economic recovery. Interest rates are low, as they are on other mortgage products these days, but that doesn't mean they're easy to get - you'll need excellent credit and a fair amount of home equity to qualify.

Home equity loans and lines of credit have a somewhat tainted reputation right now, given their role in the collapse of financial markets in 2008. During the boom years, many homeowners used them to treat their homes like piggy banks, cashing in on their equity as home values rose, then getting stuck with the bill when prices fell. But they remain a useful financial tool for those who can use them wisely.

Generally, a home equity loan can make financial sense if you're using it to fund an investment or an absolutely necessary expense - essential home repairs, education costs, medical bills, or home improvements that significantly increase your property value. In other words, something that gives you a return on your money.

Where home equity loans got a lot of people in trouble was using them to support their lifestyle - paying for vacations, nicer cars, boats or costly home improvements that didn't provide an equivalent increase in property value - like a $50,000 kitchen in a $200,000 house - expenditures that didn't provide a return on investment.

Available, but on stricter terms

Don't expect to get the same kind of terms that were available a few years ago - the days when you could borrow up to 125 percent of your home's value are long gone. Most lenders will want you to have at least 20 percent equity in your home remaining AFTER you take out the loan or above and beyond the maximum line of credit. That means you'll probably need at least 30 percent equity to start with, and after accounting for any declines in property values the past three years.

With those kinds of terms, you're not likely to qualify unless you've been in the home for a number of years - long enough to have realized some gains before prices came crashing back down. In addition, those who qualify currently are likely to be those who tapped little or no equity during the run-up in prices, and still have home equity to draw upon.

Credit scores present a lesser challenge. Although some lenders requires scores as high as 760 to qualify for a home equity loan/line of credit, others will allow loans with scores as low as 660. Be aware, though, that interest rates increase as credit scores drop - those low-score lenders will likely charge a much higher rate to borrowers with sub-700 scores.

Attractive rates

Rates are generally lower on HELOCs than straight-out home equity loans. You can get a HELOC for a bit higher than a 30-year fixed rate mortgage right now - about 5.25 percent interest, depending on your credit, compared to about two percentage points higher for a home equity loan. The difference is a home equity loan provides you all the money up front, while the HELOC is a line of credit you tap as needed then pay back, like a credit card, only with much lower rates.

Note too, that this applies only to applications for new home equity loans. Borrowers with existing HELOCs continue to report that lenders are drastically reducing shutting down their lines of credit, particularly in areas that have seen steep declines in home values, such as California and Florida.

However, if you live in an area where home value declines have been more modest - which is to say most of the United States - and you have some home equity built up and good credit, you should be able to tap a home equity loan if you need to.

Published on December 16, 2009