Which is Better: A Home Equity Loan Or an Equity Line of Credit? 5 FAQs

When you need cash, borrowing against your home can be a smart way to go. Since this is a form of collateralized loan, your bank can afford to offer you the loan at a lower interest rate than with most unsecured loans. This is because your bank knows that, if you were to default on the loan, they would be eligible to claim part of the proceeds on any sale of the home.

Equity loans are smart money because the interest rates for getting access to cash via this type of loan are on average much lower than what you qualify for when, say, borrowing against a credit card or getting an unsecured personal loan.

As you dig a bit deeper into learning about your options in this area, you will find that you have two main choices when considering borrowing against your home's equity: a. a home equity loan (a.k.a., a second mortgage), and, b. an equity line of credit.

If you are wondering, "Which is better: a home equity loan or an equity line of credit?", here are the answers to 5 FAQs:

1. Which is better if I want all my money at once?

A: Getting a home equity loan is the right choice if you need a lump-sum payout of cash that you can use all at once to make home improvements, pay for an unexpected large expense, or pay down your high-interest credit card debt.

2. Which should I choose if I do not want to pay interest on money I do not yet need to spend?

A: By contrast, with a line of credit, you basically only borrow what you need, as you need it. Depending upon your bank, you will be issued either a credit card or a check against which you can draw funds - up to the pre-specified limit.

3. Which option is best if I want a fixed monthly payment?

A: The standard equity loan (i.e., second mortgage) option is best when you want to have a predictable payment each month until you pay off the loan.

4. Which home equity option lets me pay a lower interest rate?

A: The answer to this question depends upon where average mortgage interest rates are today. If rates are relatively low, a line of credit will likely allow you to save money on payments in the short term since it is offered at a variable interest rate that is tied to the LIBOR or other bank-to-bank interest rate.

However, there is no guarantee that interest rates won't rise in the future. Therefore, it may well be the case that getting a fixed-rate loan through a standard home equity loan may allow you to pay less in interest payments over time.

5. Which one will let me lock in my interest rate?

A: Again, the standard loan option may be the best for you if you are interested in having a fixed interest rate over the life of the loan.