Equity Loan

Equity Loan doesn’t mean Loan on Equity (Stocks). Many people have a misbelieve that Equity Loan means Loan against Equity. Basically it is a ‘Home Equity Loan’.

Definition: (Home) Equity Loan -

- loan usually secured by the proportion of the home in which one has equity. It usually operates like an overdraft, where the borrower has a set credit limit to which they can draw funds.

- Wikipedia Definition: An equity loan is a mortgage placed on real estate in exchange for cash to the borrower. For example, if a person owns a home worth $100,000, but does not currently have a lien on it, they may take an equity loan at 80% loan to value (LTV) or $80,000 in cash in exchange for a lien on title placed by the lender of the equity loan.

- A loan taken against a home's equity; in essence, the homeowner is taking out a loan against him or herself, and is repaying into their own mortgage.

- A loan based upon the equity in a property.

- A loan based on the borrower's equity in the home.

- loan that uses the borrower's equity in real property as collateral. The loan may be for a variety of purposes. Also known as a second or junior mortgage loan.

- Investopedia Definition: A home-equity loan, also known as a second mortgage, lets homeowners borrow money by leveraging the equity in their homes. Home-equity loans exploded in popularity in 1996 as they provided a way for consumers to somewhat circumvent that year's tax changes, which eliminated deductions for the interest on most consumer purchases. With a home-equity loan, homeowners can borrow up to $100,000 and still deduct all of the interest when they file their tax returns.

Explanation: -

Two Types of Home-Equity Loans Home equity loans come in two varieties - fixed-rate loans and lines of credit - and both types are available with terms that generally range from five to 15 years. Another similarity is that both types of loans must be repaid in full if the home on which they are borrowed  is sold.

Fixed-Rate Loans
Fixed-rate loan provide a single, lump-sum payment to the borrower, which is repaid over a set period of time at an agreed-upon interest rate. The payment and interest rate remain the same over the lifetime of the loan.

Home-Equity Line of Credit
A home-equity line of credit (HELOC) is a variable-rate loan that works much like a credit card and, in fact, sometimes comes with one. Borrowers are pre-approved for a certain spending limit and can withdraw money when they need it via a credit card or special checks. Monthly payments vary based on the amount of money borrowed and the current interest rate. Like fixed-rate loans, the HELOC has a set term. When the end of the term is reached, the outstanding loan amount must be repaid in full.

Benefits for Consumers Home-equity loans provide an easy source of cash. The interest rate on a home-equity loan - although higher than that of a first mortgage - is much lower than on credit cards and other consumer loans. As such, the number-one reason consumers borrow against the value of their homes via a fixed-rate home equity loan is to pay off credit card balances (according to bankrate.com). Interest paid on a home-equity loan is also tax deductible, as we noted earlier. So, by consolidating debt with the home-equity loan, consumers get a single payment, a lower interest rate and tax benefits.

Benefits for Lenders Home-equity loans are a dream come true for a lender, who, after earning interest and fees on the borrower's initial mortgage, earns even more interest and fees. If the borrower defaults, the lender gets to keep all the money earned on the initial mortgage and all the money earned on the home-equity loan; plus the lender gets to repossess the property, sell it again and restart the cycle with the next borrower. From a business-model perspective, it's tough to think of a more attractive arrangement.

Recognizing Pitfalls The main pitfall associated with home-equity loans is that they sometimes seem to be an easy solution for a borrower who may have fallen into a perpetual cycle of spending, borrowing, spending and sinking deeper into debt. Unfortunately, this scenario is so common the lenders have a term for it: reloading, which is basically the habit of taking a loan in order to pay off existing debt and free up additional credit, which the borrower then uses to make additional purchases.
Reloading leads to a spiraling cycle of debt that often convinces borrowers to turn to home-equity loans offering an amount worth 125% of the equity in the borrower's house. This type of loan often comes with higher fees because, as the borrower has taken out more money than the house is worth, the loan is not secured by collateral. Furthermore, the interest paid on the portion of the loan that is above the value of the home is not tax deductible.

Paying for a child's college education is another popular reason for taking out home-equity loans. If, however, the borrowers are nearing retirement, they do need to determine how the loan may affect their ability to accomplish their goals. It may be wise for near-retirement borrowers to seek out other options with their children