How to Get a Home Equity Loan

The most significant advantage to buying a home is building equity and increasing your net worth. Home equity loans, sometimes called second mortgages, are one way of tapping into that wealth and getting cash.

Applying for a home equity loan is similar to applying for a purchase or refinance loan. You need to compare rates and terms from several lenders, have enough home equity to meet their requirements and submit your financial documents. Once approved, you’ll get a lump sum payment that you can use for any purpose. These loans feature a fixed interest rate and repayment terms of five to 30 years.

Since home equity loans are paid out upfront, they are useful for large one-time expenses and can be tax deductible if used for home improvements or renovations. However, as with any other secured loan, they're also risky. Because you’re using your home as collateral, your lender can foreclose on the property if you can’t make your mortgage payments and default on the loan.

Read on for a step-by-step guide on how to get a home equity loan and some factors to consider before applying for one.

Table of Contents

• How to get a home equity loan
• Determine how much equity is in your home
• Check your credit score
• Calculate your debt-to-income ratio
• Compare rates and fees
• Apply
• How long does it take to get a home equity loan?
• What can affect the speed of a lender's decision?
• Other loan options

How to get a home equity loan

Most banks and credit unions have similar requirements for qualifying for a home equity loan. Lenders generally require having sufficient equity, a good credit score and a low debt-to-income ratio (DTI).

Before you start the application process, it’s important to consider the following factors:

1. Determine how much equity is in your home

Home equity refers to the net cash value of your home as opposed to what you still owe the mortgage lender.

The first step in determining how much equity you have is getting your home professionally appraised. You then subtract your current outstanding mortgage balance (what you still owe the bank) from your home’s appraised market value — the amount the home could sell for.

Borrowers are required to have at least 15% to 20% equity in their homes to qualify. Your loan-to-value ratio (LTV), which is used to assess the loan’s risk, will also be considered. If you have an existing mortgage and are taking out a second loan, the lender will look at your combined loan-to-value ratio or CLTV.

Banks prefer a lower LTV or CLTV ratio, since it indicates that you have more equity than loan debt. (To calculate your LTV ratio, divide your remaining loan balance by the appraised value of your home.)

This requirement means that borrowers who are underwater on their mortgage — meaning they owe more than the home is currently worth and so are considered to have negative equity in the home — will not qualify for a home equity loan. It’s also not a likely option for most new homeowners who have not yet built enough home equity.

2. Check your credit score

Most home equity loan lenders prefer borrowers with a good credit history and FICO scores of 700 or more; however, some do have more lenient requirements and accept borrowers with scores as low as 620. As with any other loan, the higher your credit score the greater your chances of approval. You’ll also qualify for lower interest rates and a larger loan amount.

Borrowers with fair to poor credit scores will find qualifying difficult, although it’s not completely impossible. Some lenders do cater to borrowers with poor credit but will charge much higher interest rates. (Check out how to get a home equity loan with bad credit for actionable steps.)

If your FICO score is below 620, we recommend you wait and work on reducing your overall debt load and improving your score first. You might also want to request your credit reports from all three bureaus — Experian, TransUnion and Equifax — and check for any mistakes that might be dragging your score down. If you do find mistakes, you could consider a credit repair service, which can help dispute any outdated or incorrect information listed in your report.

3. Calculate your debt-to-income ratio

The debt-to-income ratio is another common metric that lenders use to determine your ability to repay a loan. This ratio reflects how much of your monthly income goes toward paying existing debts and lets banks know whether you can afford to take on new debt.

It’s calculated by dividing your total monthly debts by your monthly gross income. For instance, if you earn $6,000 a month and your debts (including recurring debts such as your mortgage, auto loan, student loan and credit cards) total $2,500, your debt-to-income ratio would be 42%.

Lenders usually prefer a DTI ratio of 43% or less, although a select few may accept higher ratios of up to 50%. Overall, having a lower DTI ratio may improve your approval chances and help you qualify for a lower rate.

If you have a high DTI ratio, consider paying down outstanding debts and avoid taking on new ones.

4. Compare rates and fees

As with any loan, it pays to shop around for rates and fees. Borrowers who compare offers from at least three lenders are usually more successful in finding a low rate. Ask about any loan-related fees, such as application fees, origination fees, closing costs, annual fees, and cancellation or early payment fees.

Some banks don’t charge loan fees and are more likely to waive closing costs if you don’t pay off the loan before a specified date.

We recommend checking our reviews for the best home equity loans if you're still considering your options.

5. Apply

Applying for a home equity loan is not a decision you should take lightly, after all your house could be at risk if for some reason you default. Before applying, make sure you can take on the additional debt.

This being said, most lenders will require proof of a stable income to ensure you can repay the loan. They may also ask for the following information and documents:

• Social Security number
• Driver’s license or government-issued photo identification
• Utility bills to confirm current address
• Current mortgage billing statement
• Property tax bill
• Recent pay stubs
• Two years of W-2 forms
• Tax returns
• Co-applicants documentation (if applicable)

How long does it take to get a home equity loan?

This is something that can vary widely depending on the lender’s requirements and the complexity of the application process. In most cases, it can take anywhere from one to two weeks for approval and up to 60 days to fully complete the process and receive the funds.

You should ask the lender for more information about their timelines to better understand how long the process can take.

What can affect the speed of a lender's decision?

Some factors that can impact timelines include:

• Missing documents: Lenders ask for a variety of documents to support your application, such as recent income statements, proof of employment, property tax bills, tax returns and a copy of the homeowner’s insurance policy. Not having the necessary documentation readily available may impact how quickly the bank can process your application.

• Verification: After receiving your documentation, lenders review it and ensure the information is correct. They may request more documents if more information is needed, which could delay the process.

• Home appraisal: Lenders will typically request a full property evaluation from a certified appraiser to determine your home’s value. This process can often take one to two weeks and can impact the application process. You may ask the bank whether you can request an evaluation in advance or use one you already have.

• Underwriting: Once your application and documentation are submitted, an underwriter will assess your financial information and determine whether you’re eligible for a home equity loan. Depending on your application and the lender's workload, this process can take a few days or several weeks.

Other loan options

Home equity loans are just one of the options homeowners have if they want to tap into their home’s appreciated value. Carefully consider all loan options and how they fit into your personal finance goals to determine which one may work best for you.

Home equity lines of credit

Home equity lines of credit (HELOCs) are another form of second mortgage but differ in the way the loan is disbursed and repaid. Upon approval, the bank will issue a line of credit that you can access during a specific period of time, usually ten years. This is called the draw period. You can take out any amount you need during this time and you can also regularly repay the amount drawn if you wish. Doing so will guarantee you have access to the full credit line.

Almost all HELOCs have a variable interest rate. During the draw period, you'll make interest-only payments on the withdrawn amount. Once that period ends, you begin the loan repayment period, which can be 10 to 20 years long. At this point, your loan payments will include both principal and interest.

Cash-out refinance

If you don’t want to carry two loans, as you would with an equity loan or line of credit, you can also consider refinancing your current mortgage. A cash-out loan replaces your original loan with a new one for a larger amount. You use part of the loan to repay your old mortgage and keep the excess balance, which you can use for debt consolidation, to pay for a home improvement project, as a down payment on an investment property or for any other use you may have.

This type of refinancing loan works exactly like a traditional mortgage. Your approval will depend on your credit score, your home’s value and the amount of equity you have in the property, among other factors. The repayment term begins the month after receiving the money and usually lasts 30 years, although you may be able to find a shorter loan term.

Personal loan

Some homeowners may consider a personal loan to cover the costs of a home renovation, medical bill, or other planned or unplanned expenses. Once approved, the loan is paid out as a lump sum payment and is repaid in monthly installments throughout the life of the loan.

Because personal loans are unsecured debt, i.e. there isn’t any collateral to guarantee repayment, the interest rates tend to be higher than home equity loan rates or the mortgage rates on a cash-out refinance. This could be a negative since it saddles the borrower with high-interest debt. However, if the homeowner does not meet the home equity loan requirements, it may be a reasonable alternative.