Unlock Your Equity: Beyond Home Equity Loans

Home equity loans can be a great way to borrow money for home renovations, consolidating debt or covering other large expenses – but they’re not for everyone.

While home equity loans may be a convenient, affordable solution for certain homeowners, it’s important to acknowledge both the benefits and shortcomings of these loans. If you decide a home equity loan isn’t your best option, rest assured there are plenty of home equity loan alternatives you can choose from instead.

Let’s discuss the basics of home equity loans, reasons why you might seek out other solutions and explore some alternatives to home equity loans.

What Is A Home Equity Loan And How Does It Work?

Home equity loans allow you to borrow money against the equity in your home. A home equity loan is almost always a second mortgage, meaning you have a second loan (and a second payment) against your home in addition to your main mortgage.

When you take out a home equity loan, the lender gives you a lump sum of money that you can spend on home renovations, debt consolidation, emergency expenses, medical bills, education costs or just about anything else.

During the loan term (which is usually 10, 20 or 30 years), you’ll pay back the principal (the amount you borrowed) plus interest. Home equity loans typically have fixed interest rates, so the payments are predictable.

If you need to cover a significant expense, know how much money you need to borrow and can commit to making a second mortgage payment each month, a home equity loan might be a good option.

Why Consider Home Equity Loan Alternatives?

Home equity loans are popular because they allow you to borrow a large lump sum of money at a fixed interest rate. Generally, home equity loans offer more attractive interest rates than many other common loans, like credit cards and personal loans.

On the flip side, home equity loans have several limitations and prerequisites, which may lead you to look elsewhere when you need to borrow money.

First, to qualify for a home equity loan, you need at least 15% – 20% equity in your home. The application process is extensive and can take several weeks, with underwriters verifying your credit history and debt-to-income (DTI) ratio. Once you qualify, you’ll receive the entire loan amount in one lump sum, even if you don’t end up using it all.

In addition to the interest payments, you’ll also have closing costs, which could total as much as 3% – 6% of the loan amount. Since these are second mortgages, you’ll have to put your home up as collateral and manage two mortgage payments.

9 Home Equity Loan Alternatives

Home equity loans are a useful tool for leveraging your home equity and borrowing a large sum of money. However, they aren’t always ideal for everyone’s situation. Though every loan has its own pros and cons, you might find one of these home equity loan alternatives below is a better match for your current or future cash needs.

Home Equity Line Of Credit (HELOC)

Like a home equity loan, a home equity line of credit (HELOC) is also a type of second mortgage. Though HELOCs have many of the same limitations as home equity loans (e.g., credit and DTI requirements, a lengthy approval process, closing costs, etc.), the key difference between the two is that HELOCs offer a revolving line of credit, so you can borrow money multiple times as needed, in small or large increments.

Pros

HELOCS often feature lower interest rates and higher borrowing limits than many other loan products. You’ll also have the flexibility to borrow money if and when you need it. During the draw period (often 5 or 10 years), you’ll only have to pay back the interest on the money you borrow.

Cons

The approval process can be rigorous, with strict standards and a wait time of several weeks for approval. You’ll also need to have enough equity in your home (at least 15% – 20%) and be willing to pay closing costs and a variable interest rate on your repayments.

Cash-Out Refinance

A cash-out refinance replaces your existing mortgage with a new one and gives you a lump sum of cash in the process. Since a cash-out refinance is a mortgage loan, you’ll have to go through the full underwriting process and meet certain credit and DTI requirements.

In contrast to a home equity loan, a cash-out refinance doesn’t add an additional payment due each month. Unless you take out a second mortgage, you’ll only have to manage one home loan.

Pros

You may be able to lower your monthly mortgage payment and access the cash you need. You’ll also avoid a second mortgage, which may make it easier to manage your finances.

Cons

You’ll have to qualify for a cash-out refinance, and you may end up with a higher interest rate or payment than what you currently have. Like other home loans, you need to meet the qualifying criteria, and the underwriting process could take several weeks.

Unsecured Personal Loan

A personal loan lets you borrow money based on your personal income and credit background. You don’t need to own a home to take out a personal loan, and if you do own your home, you don’t have to put your home up as collateral to secure the loan. Personal loan approval is typically much faster than mortgage approval, and in many cases only takes a couple of days.

Pros

You won’t have to put up your home as collateral for these loans, and the approval process is often very quick, with fewer requirements than a home loan.

Cons

Interest rates on personal loans can be very high, and the loan amount is often limited to a maximum of $50,000.

Personal Line Of Credit

A personal line of credit combines some of the features of a personal loan and a HELOC. These loans let you borrow money when you need it over a set time (known as the draw period) but are usually unsecured (meaning you don’t have to put up collateral like your house or car). Since personal lines of credit aren’t a type of mortgage, the turnaround time is much shorter than a home equity loan or HELOC.

Pros

You can borrow money only when you need it, and you don’t have to worry about a second mortgage or risking your home as collateral.

Cons

Interest rates may be higher than other loan products, and with variable interest rates, your payments won’t always be predictable.

Credit Cards (With Introductory Interest Rates)

Some credit cards offer an introductory annual percentage rate (APR) of 0% that can last for as long as 21 months, which may make a new credit card a viable alternative to a home equity loan. Getting a new credit card is one of the fastest and easiest ways to borrow money, which you can accomplish online in just a few minutes.

If you opt for a new credit card with a special teaser rate, make sure you read the fine print and know exactly when the introductory period ends, and what the interest rates will be when it does.

Pros

They’re one of the fastest, most convenient solutions, and you can enjoy 0% interest during the introductory period. Many credit cards also offer cash back or rewards programs.

Cons

After the introductory period, credit card interest rates can be as high as 25% or more. To qualify, you’ll also need a high credit score, and there may be additional fees in the fine print. Most credit cards also have lower limits than many other loans.

Borrow Against Your 401(k)

A 401(k) loan is a loan that allows you to borrow funds from your employer-sponsored retirement plan. These loans don’t have any credit or DTI requirements, and you don’t need to put up any collateral since you’re borrowing from your own assets. With a 401(k) loan, you’ll still have to pay interest, despite borrowing the money from yourself, although the interest goes back into your account once your loan is paid back in full and on schedule.

401(k) loans can sound enticing, but they do come with some drawbacks, like potential taxes and IRS penalties if you fail to repay the money you borrow at an agreed-upon schedule. Although retirement might be a distant goal for some, a 401(k) loan could impact your retirement plans by hindering the tax-deferred growth of the money you’ve saved.

Pros

It’s easy to apply – you don’t need to complete a lengthy application, and you don’t need a minimum credit score or DTI ratio to qualify. Interest rates may be lower than other loans, and when you pay the interest, it goes back into your 401(k) account.

Cons

If you don’t repay the loan, there could be tax implications and penalties. You’ll also be cutting into the money you’ve saved for retirement and missing out on tax-deferred growth, which could cost you later. There are also loan limits of $50,000 or 50% of the vested balance.

Reverse Mortgage

Reverse mortgages allow homeowners who are 62 and older to borrow against their home equity and receive money from their lender. While you don’t have to pay back a reverse mortgage until you sell the home or move out, these loans have strict qualifications and can take upward of 30 days to close.

Pros

Payments you receive from a reverse mortgage aren’t taxed, and you can stay in your home without a rent-back agreement (more on rent-back agreements below).

Cons

These loans are only available to homeowners who are 62 or older, and the contract terms can be confusing. The costs of a reverse mortgage can also be high, and you’ll still be responsible for maintenance, insurance and property taxes.

Contractor Financing

If you’re working with a home services company to renovate your property, some contractors offer direct or indirect financing options. These loans may be a great home equity loan alternative for homeowners seeking fast, more affordable, short-term financing.

Contractor financing will generally have lower limits, and while you may not have to put up your home as collateral, failure to repay could result in the contractor filing a lien against the property.

Pros

Contractor financing is a convenient way to finance home renovations that may offer an interest-free option. Typically, these loans are issued quickly and don’t require an extensive application and underwriting process.

Cons

Contractor financing may only be useful for short-term repayment periods or have higher interest rates for longer-term financing options. In addition, not every contractor offers these loans, and they’ll only cover certain types of work. Finally, if you fail to repay the loan on time, the contractor can file a mechanic’s lien against your property.

Sell Your Home With A Rent-Back Agreement

If you want to sell your home but aren’t quite ready to move out yet, selling the property with a rent-back agreement (also known as a “leaseback”) can give you access to almost all of your home equity. With a rent-back agreement, the buyer allows you to temporarily stay in the home as a renter in exchange for rent payments. Rent-back agreements are useful in certain situations where you want to sell your home, but you’ll have to find a buyer willing to agree to the terms, and you may end up paying more in rent than the cost of your monthly mortgage.

Pros

You can access your home’s equity without a loan, and without having to move out of your house right away. There aren’t any applications, and since you’re no longer the owner of the property, you won’t have to worry about the upkeep costs.

Cons

You’ll have to find a buyer for your home, and they’ll need to agree to the terms of the leaseback. You may also end up paying more to rent the property than the cost of your old mortgage, and at some point, the new owner may decide they don’t want to continue renting the home to you.

Home Equity Loan Alternatives FAQs

Is it a good idea to take equity out of my home?

Using your home’s equity can be beneficial in certain situations, like if you’re making improvements to your property or consolidating higher-interest debt.

Can I use my home equity without refinancing?

If you want to use home equity without refinancing, there are several options you can consider, like a home equity loan, a home equity line of credit (HELOC) or a sale with a rent-back agreement.

Can I sell my house if I have a second mortgage?

If you have a second mortgage, you can still sell your house at any time – you’ll just have to pay off both mortgages at closing.

How does a home equity line of credit differ from a home equity loan?

Two main differences between a home equity line of credit (HELOC) and a home equity loan are that HELOCs offer a revolving line of credit rather than a lump sum of cash and a variable interest rate instead of a fixed interest rate.

The Bottom Line: You’ve Got Options

Home equity loans are one of the top ways to access the equity you’ve built up in your property. For all its benefits, however, home equity loans come with some distinct disadvantages, like high closing costs, strict loan requirements and a lack of flexibility.

Whether you want a more flexible solution or you're having trouble qualifying for a home equity loan there are several alternatives to home equity loans that might be a better fit for your financial situation.

Ready to take cash out by tapping into your home equity? Start the approval process online today.