A home equity loan lets you borrow money from a bank by using your home equity as collateral. You might be in need of money to fund your business idea, get repairs done on your house, invest in the education of your children, or any other personal priorities that you think require immediate attention.So, what is a home equity loan exactly? Read on to learn.

Basically, the bank lends you an amount you requested for in exchange for your house/property as guarantee. After the loan is sanctioned, you’ll be provided a timeframe within which you have to return the money with interest. If you fail to do so, you’ll become a defaulter, forcing the bank to confiscate your property.

Note: You can use home equity loan EMI calculator in which you can easily calculate your monthly Home Loan EMI by just entering amount, tenor and rate of interest

If you’re still not entirely clear, perhaps the Home Equity Loan Process will make it easier to understand.

Understanding the Home Equity Loan Process

A home-equity loan is often confused with a mortgage. One of the key differences between the two is that a mortgage can only buy you a house, and nothing else. Another difference lies in the interest rates on home equity loans, which are higher than those on mortgage loans, but usually lower than other types of loans because of the collateral.

Assessing Your Financial Condition

Putting your personal sanctuary at risk might not seem like a good idea. But when push comes to shove, it’s likely going to be the safer option.

Before you decide to hand over the property papers to the bank, you need a clear grasp on your repayment abilities. Try to determine if the loan is worth taking. Also, analyse your income and the nature of the investment. You should be able to judge if you’ll be making any profits on your investment. Always remember that you will lose your house if you cannot repay the bank in time.

Analysing Your Objectives

Getting the loan after handing over your property is the easy part. Ask yourself what the objective of taking such a risk is. If you’re taking it to fund your business, what are the prospects of the business and how much money will you recover once set-up? Since it’s the roof over your head that’s being used as collateral, you need to make a decision based on sound financial logic.

Determining Your Home Equity

A home equity loan is only worth taking if your home builds equity. So, it’s advisable to be patient and let the investment mature. Equity is the difference between the appraised value of your house and the payable mortgage left pending.
You can go ahead with the loan if you think enough equity has been amassed. One way you can tell if the equity is enough is by taking the appraised value of your house, multiplying it by 80 percent, and subtracting the money you owe from the loan. Not only will the result give you a fair idea of the equity, but it will also give you an idea about the loan amount you’re eligible for. Lenders accept loan applications and offer good interest rates only if the equity is high.

Choosing the Right Kind of Loan

A home equity loan is of two types: the fixed rate loan, and the Home Equity Line Of Credit (HELOC).

  • The fixed rate loan, once taken, has to be repaid in 10-15 years in fixed monthly instalments at established rate of interest.
  • A HELOC is like a fixed deposit which will be available to you for a certain amount of time. You can withdraw as much money from the deposit as you like until the withdrawal period expires. The rate of interest for such a loan however varies, unlike a fixed rate loan.

Applying for the Loan

Once you’ve ascertained your goals, equity, and the kind of loan you want, the application process can be initiated. Investigate the loans offered by various banks and lenders. Enquire about the rate of interest, tenure for repayment, and other benefits you might receive and pick the best deal from the lot.

Providing the Necessary Paperwork

The paper work you need to provide your lender includes your income details and an appraisal of your house. These are mandatory because the bank uses your house as collateral.

Signing the Loan Papers

When you’re declared eligible for the loan by the lender, you need to sign the papers to seal the deal. If it’s a fixed rate loan, you’ll receive the money as cheque or an online transfer. For a HELOC, access to the fund will be provided in the form of a cheque book or a credit/debit card.

It doesn’t end here though. You’ll have to agree to the terms and conditions of repayment , and the consequences if you fail to repay the amount.

Procuring a Home Equity Loan for Business Needs

If the reason behind a home equity loan is a business or start-up investment, you should consult a financial advisor because such investments can be risky. You can double your profits or you can lose it all. Whatever the case or the outcome, you should tread with immense caution.

Here’s what you should know if you’re thinking about investing your home-equity loan in a new business venture.

Funding Your Venture

One of the major obstacles start-up newbies and entrepreneurs have to tackle is the investment capital. If the cost of product development, customer acquisition, and achieving a steady cash inflow exceeds your personal resources, you shouldn’t opt for a home equity loan. Try for equity from investors instead.

Periodic Start-up Expenditure

For an entrepreneur running a start-up, paying monthly expenses such as employee salaries, bills for supplies, and other overheads can cause an imbalance in funds.

Since repayment of the loan heavily relies on the profit made from the business, balancing personal and business expenditure can result in a shortage of funds, resulting in delayed salaries for your employees. If this happens, your business will not be able to generate the revenue to pay the loan amount.

Inflating Rate of Interests

The rise and fall of rates could be erratic at times. A 1% increase in the interest rate for the loan can have adverse effects on your financial stability. Factor this in before deciding to take out a home equity loan.

Is the Investment a Gamble?

You might consider using your entire loan amount to fund your start-up aggressively, thinking that you’ll recover the money from investors if the business does well. But you need to consider the mind-set of these investors.

They put their money into fresh start-up ideas and developments to maximise profits, and to generate revenue rather than prioritising paying-off the debt you took to fund it initially. As a stipulation for investment, they will amalgamate any debts you took with the equity. In such a scenario, the possibility of paying off your debt can only be realised when the start-up is sold, which might take longer than you can afford.

A home equity loan is clearly as gamble if you’re not confident about your repayment ability. Before you decide to take one, consider the assets you might lose and weigh them against the profits you could make.

Some banks may not entertain your loan application if they learn that your investment involves funding a start-up. Be mentally prepared and seek advice from financial advisors and experts before you sign-up for a home equity loan in the future.

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