Types of home equity loans: Fixed-Rate Loan vs. Line of Credit

What types of home equity loans are there? There are two types of home equity loans:

• Fixed-Rate (Term or Closed-End Loan)
• Line of Credit

Both are secured by your property like your original (or first) mortgage, and for this reason are referred to as second mortgages.

Home equity loans and lines of credit are usually for a shorter term than first mortgages. Mortgages typically run 30 years, while home equity loans generally have a life of 5 to 15 years.

A home equity loan, sometimes called a term loan, is a one-time payment with a fixed interest rate and the same payments each month. Once you have received the money from a home equity loan you cannot borrow further from the loan.

A home equity line of credit (HELOC) works more like a credit card. You are allowed to borrow up to a certain amount for the life of the loan – a time limit set by the lender. During that time you can withdraw money as you need it. This allows for greater flexibility than a home equity loan.

A line of credit is like a credit card in that it is revolving debt. This means that as the principal of the line is paid down, your credit “revolves” and you can use it again. For instance if you had a $20,000 line of credit. You borrow $15,000, but then pay back $6,000 toward the principal. You now have $11,000 in available credit.

Credit lines have a variable interest rate that fluctuates over the life of the loan. Payments will vary depending on the interest rate and how much credit you have used. When the life span of a line of credit has expired everything must be paid off. A lender may or may not allow a renewal.

Access to lines of credit is provided by specially issued checks or a credit card. Lenders may require the borrower to take an initial advance when you set up the home equity loan, withdraw a minimum amount each time you dip into it and keep a minimum amount outstanding.

Financial institutions will negotiate a home equity loan much as they do a mortgage: the loan or line of credit will have to be paid off once the house is sold.