Borrowing against your home

Since so much of your net worth is likely to be invested in your home, you may, at some time, want to borrow against its value with a home equity loan or a home equity line of credit (HELOC). You can often borrow more money at a lower rate than with other types of loans and may be able to deduct the interest paid on such loans on your tax return. But there are risks involved, including a possible foreclosure, or the loss of your home, if you can't repay on time.

When you obtain a new home equity loan, your home serves as collateral for the loan. Equity is the difference between the current value of your home minus the amount you owe on your mortgage or any liens against your property. For example, if your home is currently valued at $250,000, and you owe $100,000 on your mortgage and there are no liens on your home, your equity is the difference between $250,000 and $100,000 or $150,000.  Expressed as a percentage, you have 60% equity in your home ($150,000/$250,000).

Second mortgages

With a home equity loan, sometimes described as a second mortgage, you may be able to borrow up to 80% (or more) of your home’s value, less any liens against your property, either at a variable or fixed rate of interest. Typically, you'll receive a check from your lender in the amount of your home equity loan, and begin repayment right away. This loan works just like any other one — you make a series of monthly payments over a fixed term.

Home equity lines of credit

If you arrange for a line of credit on the equity in your home, or HELOC, the lender establishes a credit line, which is similar to the borrowing limit on your credit card. You can write checks for any amount up to that limit as you need the money.

You aren't charged interest on the line until you actually borrow against it — and when you do, you pay off the balance over time just as you would with a credit card. Once you repay the amount you've borrowed, you can borrow it again, up to your available credit limit. The terms of repayment vary, but are spelled out in your loan agreement.