A home equity loan and a home equity line of credit are two possible methods of credit card debt relief that have many similar features. For consumers who are considering their options to reduce or eliminate their credit card debt, it is important to understand both the similarities and differences between these two types of loan products. While both of these loan products use a consumer’s home as collateral, they can have very different financial consequences for a consumer.
A home equity loan is a loan that uses the equity that has accumulated in a piece of real estate owned by the borrower as collateral. Usually, this piece of real estate is the primary residence of the borrower, but there are plenty of examples where borrowers have used second homes, investment properties, or even business real estate in order to take out one of these loans. Equity is defined by lenders to be the appraised value of a piece of real estate with the value of any mortgage taken out against it subtracted from this figure. Usually, the maximum amount that will be lent in a home equity loan is equivalent to this calculated amount.
A home equity loan is typically taken out as an additional loan to the original mortgage. This leaves a borrower with two loans that both use his or her piece of real estate as collateral. To use a home equity loan to pay off credit cards, the loan is taken out for the amount equal to the total amount of credit card debt. This money is then used to pay off all of the credit cards. The borrower pays off all of his or her bills, and is left with a single monthly payment that usually has a lower interest rate than his or her old credit cards.
A home equity line of credit also starts with a bank computing the total amount of equity in a piece of real estate. Instead of making a one time loan of this amount, however, a bank will simply open a line of credit to the consumer with the credit limit set to this amount. The consumer can decide how much of the line of credit he or she wants to use, as well as how often he or she wants to use it.
Someone who wants to use a home equity line of credit to reduce their credit card debt can decide to take out enough money to pay off his or her highest rate cards, or decide to take out enough to pay off all of his or her cards. After these cards are paid off, many people choose to use their HELOC to pay for major expenses. These people will usually never touch their credit cards again, preferring instead to use the lower interest rate and (often) better payment terms of their HELOC.
Both home equity loans and home equity lines of credit can help consumers to pay off and control their credit card debt.