What is a home equity loan?

A home equity loan allows you to tap the equity you've accrued in your house to get cash. The funds can be used for any reason, from consolidating debt or paying for college to funding home renovations.

Because they're secured, home equity loans typically have lower interest rates than what you'd get on a credit card, personal loan or private student loan. 

But since they use your property as collateral, you risk foreclosure if you default on payments.

A home equity loan is essentially a second mortgage that allows you to borrow money using the equity you've earned in your property. If you're approved, your lender will provide the funds in one lump sum, which you'll repay with interest in monthly installments over anywhere from 5 to 30 years.

In exchange, they have a claim on your property and can initiate foreclosure if you're delinquent or default on the loan.

Most lenders offer a fixed interest rate and allow homeowners to borrow between 80% to 85% of their home's value (minus what they still owe on their mortgage). Some approve home equity loans for as much as 90%.

You'll receive the full amount at closing and repay it monthly in addition to your current mortgage.

Since this is a secured loan, you're likely to get a lower interest rate than with a personal loan or credit card. However, credit score and debt-to-income ratio requirements are typically higher than for a purchase mortgage.

The qualifications for a home equity loan are more stringent than with a purchase or refinance mortgage. While requirements vary by lender, you'll typically need. 

• Home equity: 15% to 20%
• Credit score: 680 
• Debt-to-income ratio: 43% or less.

Because of closing costs and early repayment penalties, most lenders set a minimum amount of $35,000 for a home equity loan, although TD Bank and Flagstar will lend as little as $10,000.

Not all mortgage lenders offer home equity loans. We've picked some top providers, based on rates, terms and other factors.

TD Bank

TD Bank accepts applicants with FICO scores of 660, compared to the 680 that most lenders require. The New Jersey-based lender also has generous loan limits, allowing borrowers to take as little as $10,000 or as much as $500,000.

Minimum loan amount: $10,000
Maximum loan amount: $500,000
Repayment terms: 5, 10, 15, 20 or 30 years
Loan-to-value ratio: 89.99%

Rocket Mortgage

While most lenders cap loans at 85% of your home equity, Rocket Mortgage will go as high as 90%. Licensed in all 50 states, the online lender is known for its excellent customer service and has earned high ratings from J.D. Power and the Better Business Bureau.

Minimum loan amount: $45,000
Maximum loan amount: $500,000
Repayment terms: 10 or 20 years
Loan-to-value ratio: 90%

Flagstar Bank

Flagstar is far more flexible than most home equity loan lenders, approving loans for as little as $10,000 or as much as $1 million. In addition, it doesn't charge closing fees or prepayment penalties.

Minimum loan amount: $10,000
Maximum loan amount: $1 million
Repayment terms: 10, 15 or 20 years
Loan-to-value ratio: 80%

One of the most impactful things you can do to get the best rate on a home equity loan is to improve your credit score. Most home equity lenders require a credit score in the high 600s, but those who get the best rates have a credit score of higher than that.

Here's how you can improve your credit score to get a better rate.

• Credit utilization rate: This is the amount of credit you're using as compared to the total amount available to you. For a home equity loan, lenders generally want a credit utilization rate of 30% or less, but having 10% or less will get you the best rates.
• On-time payments: Payment history accounts for 35% of your FICO credit score. If you pay your bills on time (and make more than the minimum payment), your score will increase quickly.
• Pay off debt: Total debt makes up 30% of your credit score, so pay it down and your score will rise.

Home equity loans and home equity lines of credit (or HELOCs) both use your property as collateral, but there are important differences.

• A home equity loan is issued in one lump sum, while a HELOC is a revolving line of credit.
• Home equity loans typically have a fixed interest rate while HELOCs usually have a variable rate.
• You can get access to a HELOC in as little as two weeks, while closing on a home equity loan can take up to 60 days.
• HELOCs have an initial draw period (usually 10 years), during which you only have to pay interest. If you take out a home equity loan, you need to start repaying the principal and interest immediately.
• The repayment period on a HELOC is typically 10–20 years. The term on a home equity loan can be anywhere from 5 to 30 years.
• With a HELOC, you only pay interest on the portion of the line of credit you use. If you tap too much at once, however, your credit utilization rate will go up and your credit score will take a real hit.

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