Borrowing Vs Home Equity
There are numerous financial products available, each serving a unique purpose. From term loans to home equity, there are several options available to the modern borrower. Each comes with its share of risks and rewards.
This article will delve deeper into two such forms of credit: borrowing vs home equity. Meanwhile, if you are looking for more information on applying for a home equity loan in Canada, read more.
What does borrowing mean?
Simply put, borrowing means taking a loan from a financial institution. The form of lending can be numerous:
- Home Loan
- Vehicle loan
- Personal Loan
Thus, any transaction wherein a person borrows funds in exchange for interest, hypothecation, or mortgage is known as borrowing. Secured borrowing includes collateral. Usually, an asset is pledged with the lender. In the event of non-payment of the loan, the lender can exercise its charge on the collateral and recover the unpaid amount.
You can also avail of a loan without collateral. However, in that case, you must have a good credit score. Also, the interest rate of an unsecured loan would be higher than that of a secured one.
Benefits of borrowing
Here are the various benefits of borrowing:
Meet unforeseen expenses
Borrowing allows people to meet unforeseen expenses such as an emergency medical requirement. It provides them with the financial flexibility to pay from their future income.
Flexible interest rates
Various forms of borrowing have different interest rates. You can choose between fixed and variable rate credit options. You can also modify the repayment schedule to be monthly, annually, or semi-annually.
The interest you pay on your borrowing is not subject to tax. You can claim such interest expenses as a business expense.
Timely payment of borrowings improves your credit history, bringing various advantages. It can help you earn better insurance rates. Also, financial institutions would be more willing to offer you credit products at attractive rates.
What is a home equity loan?
A home equity loan is a type of borrowing based on the value of your home. The borrower receives the amount based on the market value of the house. However, the lenders keep a margin of 20% of the property’s value while providing a home equity loan.
For example: if the value of your home is $300,000, you will not get the entire amount as a home equity loan. The maximum amount you can avail would be $240,000 (80% of $300,000). However, if you have a clean credit record and a high credit score, some lenders may provide as much as 90% of the value of your home as a home equity loan.
The benefits of an Equity home loan
The benefits of an equity home loan can be many as it can cover the significant expenses of the borrower. It can be used to pay off costs like:
- Education of your child;
- Emergency health expenses;
- Significant home renovations;
- Debt consolidation.
Since you are taking a loan on the value of your home, the interests rates are lower than most other financial products. Moreover, the interest expenses are tax-deductible.
Home equity loans are an excellent way to finance home renovations. The borrowed sum can be used to increase the value of the property. If you are knee-deep in debt, home equity can come to your rescue. These loans are ideal for debt consolidation. You can pay off all your high-interest-bearing loans with the help of a home equity loan. You then end up paying a single loan with less comparative interest.
Substantial expenditures, like marriage or higher education, can also be funded via a home equity loan. Moreover, you do not need to furnish proof of active income to avail of a home equity loan. Since this is an asset-based loan, your payment is of little significance. However, taking out an equity loan is not advised if you do not have a fixed income stream. You would run the risk of losing your home in the process.
Borrowing Vs Home Equity: Types of the home equity loan
There are two significant types of home equity loans you can avail of:
The person who takes the home equity loan has the first option to avail of a fixed interest rate loan. Under this option, the borrower must pay the same fixed interest on principal throughout the period. Generally, such loans are for more than five years and less than fifteen years.
Home equity lines of credit ( HELOC)
The second option available by the borrower is Home equity lines of credit, commonly known as HELOC. This works on similar lines as a credit card. The borrowers need to pay the interest on the borrowed amount.
Instead of a lump-sum amount, the value of your home equity is provided as revolving credit. You can withdraw the amount as and when the need arises. You would be required to pay interest only on the used amount and not on the entire sanctioned limit.
When the borrower avails of the loan under this option, the borrower has a certain amount pre-approved by the financial institution. The borrower needs to pay the interest on the amount which is used. The period for such an option is from five to ten years.
Borrowing Vs Home Equity: Conclusion
Both borrowing and home equity serve their purpose. If you do not need a considerable sum of money, you can take out a loan. However, if you need a substantial amount of money, home equity can be your go-to option. It is best to talk to an expert who can help you assess your requirements and take out a loan accordingly.