Home Equity Loans, Mortgages, and HELOCs: What’s the Difference?
Navigating the world of real estate financing can feel like a labyrinth of terms and products. You've likely heard the names - mortgages, home equity loans, and Home Equity Line of Credit (HELOC) - but distinguishing between them can often be a source of confusion.
At Encompass Credit Union, we believe in providing clarity and empowering you with knowledge. Let's untangle the web, spotlighting these three major financial products and their individual characteristics.
Mortgages
A mortgage is a loan that you take out to finance a home purchase. Mortgages typically have a tenor of 15 to 30 years with steady monthly payments. Upon approval, you receive a lump sum to pay for the house, and you repay the loan amount along with interest over time.
Home Equity Loans
Also known as a "second mortgage," a home equity loan is a type of financing where you borrow against the equity in your home. Here, equity refers to the difference between your home's value and how much you owe on your original mortgage.
Just like a mortgage, a home equity loan comes as a lump-sum amount, which you repay over a fixed term at a fixed interest rate.
You might wonder why it's called a "second mortgage." It's because if you fail to make payments and face foreclosure, your original mortgage gets paid off first before the home equity loan.
Home Equity Line of Credit (HELOC)
Unlike the lump-sum provided in home equity loans, a HELOC is a revolving credit that allows you to borrow as much as you need up to a certain limit. The draw period can last up to 10 years, and you only pay interest on what you take out.
After the draw period, a repayment period begins, often 10 to 20 years long. During this period, you can't borrow money and must repay both principal and interest.
Under U.S. tax law, if the HELOC is used to "buy, build, or substantially improve" your home, the interest may be tax-deductible.
How Do 'Second Mortgage', 'Tax Deduction', and 'Interest Rates' Apply?
As mentioned earlier, home equity loans are often known as second mortgages. If you default on your loans, the primary (first) mortgage gets paid off first from any sales proceeds. Additionally, the interest rates for home equity loans and HELOCs are generally lower than personal loans or credit cards, mainly because they use your home as collateral.
Regarding tax deductions, you may deduct mortgage interest—on both your primary mortgage and second mortgage—if the loan was used to buy, build, or substantially improve the home that secures the loan, up to a certain limit.
Your Next Step
Mortgages, HELOCs, and home equity loans each offer unique advantages depending on your financial condition and goals. Considering a home financing move? It's critical to consult with experienced professionals.
Encompass Credit Union offers a wealth of information, tools, and advice to help you make informed decisions. Visit our mortgage loan information site for insights and guidance tailored to your needs.
Bear in mind, this information is for general understanding and should not replace professional financial advice. Always consult with a financial advisor for personalized advice based on your situation.