A home equity loan is a good choice of financing which gives you the ability to make various home improvements. This type of financing is also effective for debt consolidation purposes. This and any other type of equity loan is a good choice as well because of the tax deductible benefits and common low interest rates that this loan features.
How Does a Home Equity Loan Work?
A home equity loan is essentially a secured personal loan by the means that it requires you to put up collateral. This particular type of loan requires your home to be used as the collateral to receive financing. If you are only looking to receive a small amount of financing then you can expect excellent interest rates and great terms and benefits for the equity loan. Even larger amounts of financing with a home equity loan will have decent interest rates as a result of the quality collateral that you are putting up.
What is required to Qualify for a Home Equity Loan?
There are a number of requirements that you must meet in order to be qualified for a home equity loan. You should know about these before you apply for financing. The major requirement will be that you have the necessary collateral for the loan. It will also be necessary for you to have a strong credit rating as this is used to determine the chances of the loan being repaid.
Typically, home equity loan providers will approve most borrowers with a credit score of 650 or higher as long as they have the appropriate collateral. A home equity loan may still be obtained with a lower credit rating but the interest rate and terms for the equity loan will not be as appealing.
Proof of Income
You will also be required to provide proof of employment and income history. You will need to provide information on your employer, how long you have been employed, and your income status. The lender may verify this information by contacting the employer. It is necessary to provide verifiable income information for the previous three years of income filing so you may have to list previous employers as well. Those that are self-employed can provide income proof through contracts with clients, invoices, and bank statements. While you may not need to make a certain amount each year, it is definitely optimal to have a steady employment history with no gaps of employment.
Debt to Income Ratio
Another requirement for home equity loans is to have an acceptable debt to income ratio. There should be a ratio of less than 50% to be qualified for the equity loan. The reason for this is that this is the major method for evaluating your financial status and how you can handle further debt. To determine your debt to income ratio you have to take your current income and divide it by the amount of debt that you currently have. For example, an annual income of $50,000 with $30,000 of debt puts the debt to income ratio at 60% and makes the individual unqualified for a home equity loan.
It will be necessary for you to obtain an appraisal for the value of your home. This must be done by a certificated home appraiser. There are a number of factors that will be used to determine the value of your home, such as the value of the property, condition of the home, and where the property is located. Any home improvements will also improve the home’s appraisal value. Also, your home can be excellent but in an unattractive community with poorly kept homes, the value of it could drop significantly. Basically, the home appraisal is mostly used to determine how much will be available to the borrower through the equity loan.
How to Determine the Amount You Qualify For
There is a simple formula which can be used to give you an idea on how much you will be qualified for through a home equity loan. Basically, take 80% of the appraisal amount for your home and deduct any outstanding debt. This will be the amount that you are qualified for with the equity loan. For example, if your home is appraised at $300,000 and you have $50,000 in outstanding debt, you will be qualified for up to $190,000 through the equity loan. This formula is often used by lenders so borrowers will not take on more debt than they can actually handle.
In closing, a home equity loan has a number of requirements that you will have to meet. If you qualify for this type of loan then you should look into getting the best payment terms and interest rate possible. Make sure you shop around for the best option of home equity loan available before applying for this type of financing. With that being said, the home equity loan is a great form of financing that can be worth applying for in many situations, so long as you meet the requirements.