Last year’s historically low mortgage interest rates led to an increase in refinancings, pushing back another type of financial product.
For many homeowners, the equity in their home — in the form of home equity loans or lines of credit (HELOCs) — has always been a go-to source of cash for things like home renovations, college tuition and fees. even debt consolidation.
But with mortgage rates so low, people are primarily accessing home equity through mortgage refinancing. The number of cash refinance loans jumped more than 40% from 2019 to 2020, according to Dr Frank NothaftChief Economist at the Housing Data Company CoreLogic.
At the same time, home equity loans and lines of credit have been harder to come by, experts say, as lenders have become more risk averse and increased credit requirements.
Low mortgage rates won’t last forever. With experts predicting a rate hike in 2021, when will home equity lending be worth revisiting?
Here’s what some financial experts are predicting.
Look at mortgage rates to predict home equity loans
When mortgage rates rise – as they are expected to do this year – and refinancing is no longer a primary choice for homeowners, “that’s when home equity products will re-emerge as the primary way to access to the equity in the property,” says Greg McBrideChief Financial Analyst at Bankrate.com.
Even when home equity loan rates become more competitive with refinance rates, this type of loan comes with added complexity since a home equity loan or HELOC is on top of your primary mortgage.
But just as mortgage rates are low right now, so are home equity product rates. So if you can get one now and it makes sense to you, you’ll save on interest.
What is the impact of high house prices on home equity loans
High real estate prices have created uncertainty among home equity lenders.
“If you have sudden price jumps, you can also have sudden price drops,” says Craig Lemoine, director of the Academy of Home Equity in Financial Planning at the University of Illinois. This helps explain why home equity lenders have been hesitant to extend credit due to fluctuating home prices.
And real estate price volatility will not be long in coming, predicts Nothaft. The CoreLogic Home Price Index predicts a 4.2% rise in national home prices in the 12 months to December 2021.
What you’ll need to qualify for home equity loans in 2021
Home equity loans and lines of credit are still harder to access than they were before the pandemic, “but they haven’t tightened up either. It’s still an environment where you have to keep your skin in the game,” says Greg McBride.
This “skin in the game” that McBride refers to comes down to two key things for homeowners: your home equity and your credit. The more equity you have and the better your credit rating, the better your chances of getting a good deal on a home equity loan or line of credit.
Your credit score and a measure known as the combined loan-to-value ratio both play a role in the type of home equity loan available to you. If you are currently seeking a HELOC or home equity loan, or may be in the near future, you will need to meet stricter criteria.
A low loan-to-value ratio
Your loan to value (LTV) ratio can be found by dividing the outstanding loan amount by the value of your home. Lenders consider higher LTV ratios (meaning you have less equity in the home) to be riskier.
“Most lenders aren’t really willing to go above the 80% loan-to-value threshold on a second lien. Those that do are rare and may only be for existing customers,” McBride says.
But, as lenders become more comfortable with the amount of debt due to the pandemic, “they’ll bring it down to the 85% to 90% level,” McBride says.
A combined loan-to-value ratio compares your total mortgage debt portfolio to the market value of your home. This means that any secondary mortgages – such as a home equity loan or HELOC – will be included in the appraisal.
A good credit rating
“Scores below 600 will struggle to get a HELOC,” says Damsky. “A good relationship with a bank can help obtain more favorable terms.”
If your credit score isn’t quite up to snuff, be sure to make all your other loan payments on time and in full, and limit the use of your credit. These are two major factors used to determine your creditworthiness, so staying on top of both can help you in the short and long term.