How does a home equity loan work?

If you’ve built up some equity in your home, a home equity loan might be a good source of credit.

Tags: Credit, Home, Home equity, Loans
Published: November 11, 2020

Home ownership offers numerous benefits, from providing your family with a safe place to live to giving your family a place to grow and make memories. But did you know that owning your home may also give you access to credit? Find out how home equity loans work, learn about the pros and cons, and discover what you could do with this type of financing.


What is a home equity loan?

Before you start dreaming up ways to put your financing to work or filling out application paperwork, make sure you understand a basic home equity loan definition. Essentially, taking out a home equity loan gives you the power to borrow against your home equity, which is the difference between the total value of your home and any related debts, including your mortgage.


How to get a home equity loan

Borrowing against the value of your home doesn't have to be complicated. Take a look at this home equity loan 101 breakdown for the step-by-step process.

1. Qualify for a home equity loan. Calculate your loan-to-value ratio (LTV) by dividing the amount of your mortgage by the appraised value of the property. In general, a lower ratio can give you access to a lower interest rate and more favorable terms.

2. Complete a loan application. Talk with a home equity specialist or loan officer at your bank to fill out an application.

3. Prove your income. Have copies of your W-2 forms and pay stubs handy, and/or other sources of income verification. Be prepared for a credit check and a review of your debt-to-income ratio (DTI) and other credit-qualifying factors.

4. Agree to the terms. Once you're approved for a home equity loan, confirm the timeframe and monthly payments.


How to use a home equity loan

One of the biggest perks of this borrowing option is that you could use a home equity loan to fund your family's biggest dreams. Although many homeowners use their loans to pay for major home improvements and renovations, you don't have to apply it to house-related expenses. Home equity loans are funds typically used for a specific purpose in mind and home equity lines of credit can be a great source of funds for emergencies. You decide what works best for you.

Whether you're ready to apply for a loan now or you want to wait until your home gains enough equity first, this borrowing option can be an excellent one for homeowners in the right situation.


Still not sure whether a home equity loan is the right lending solution for you? Try this home equity recommendation tool to find out more.