How to use your home's equity for a loan or line of credit in California
For homeowners in California, a home equity loan (sometimes known as a second mortgage) can be a great way to use a home’s equity to meet your financial needs.
You can use a home equity loan for many different expenses including debt consolidation, home improvements, college tuition, medical bills, or even a vacation. Two different types of home equity loans available to California homeowners include home equity loans and home equity lines of credit (known as a HELOCs). Let’s take a closer look at each of them.
Home equity loans in California
With a home equity loan, you get one lump sum of money that you pay back via fixed monthly payments over an agreed term. If you know exactly how much money you need to borrow or prefer to get your loan funds at once, a home equity loan may be a better option than a home equity line of credit.
A home equity loan can also be effective in consolidating your debts, where you can often convert your current debt into a stable monthly loan payment, often at a lower interest rate.
Fixed interest rate home equity loan
Home equity loans offer fixed interest rates that make it easier for you to budget for your payments. Once you get your interest rate and the disbursement of the loan is received, the interest rate will not change, even when there are major interest rate fluctuations in the market. This is considered an advantage of the home equity loan over the home equity line of credit, which often uses variable rates.
You can view current home equity loan rates from Discover® Home Loans to better understand what rates you should expect, or you can enter your credit score and estimated home equity in our monthly payment calculator to see what your monthly payments might look like for a fixed rate home equity loan.
Home equity loan closing costs and other fees
Although closing costs vary by lender, you can often expect to pay them when you take out a home equity loan. In most cases, closing costs are between 2% - 5% of the entire cost of the total loan. This may add up to thousands of dollars and can be added to your total loan amount. Examples of fees and closing costs you may be responsible for paying include:
- Origination and/or Application fees: This is a set fee to apply of rand originate your loan.
- Appraisal fee: Your lender may use an appraisal to determine your combined loan-to-value ratio. This is calculated by adding your new loan to any other loans or your home, then dividing the balance by your property value.
- Title search fee: A title search fee will allow your lender to confirm that you’re the owner of the property.
Discover Home Loans offers home equity loans with $0 fees and $0 costs due at closing, saving you money over the life of your loan.
HELOCs in California
A home equity line of credit is like a credit card attached to your home equity — you have a set credit limit that allows you to borrow as much or as little as you’d like up to that credit limit. HELOCs are a good option when you would like the flexibility of being able to borrow money as you need it.
If you take out a HELOC, you should be aware of two timeframes: the draw period and the repayment period. During the draw period (which may range from 5 to 10 years), you can withdraw whatever amount you need up to your limit. You will only pay interest on what you borrow. Once the draw period is over, the repayment period will begin.
The repayment period ranges from 10 to 20 years and requires you to pay back the principal and any interest on your borrowed amount. You can no longer borrow money from your HELOC during the repayment period. Some lenders may require payment in full or for a large portion of the loan balance at the end of the HELOC draw period (also known as a “balloon payment”), so make sure to understand your lender’s specific requirements before you apply for a loan.
READ MORE: Home Equity Line of Credit Handbook
HELOC: Variable interest rates
While some do not, many HELOCs come with a variable interest rate that can fluctuate based on the market index used for the loan. If the market’s prime rate goes up, you can expect your HELOC rate to increase as well.
Your credit score and debt-to-income ratio (your debt payments divided by your gross monthly income) are often considered when determining the initial interest rate you’re offered. Generally, the higher your credit score is and the lower your debt-to-income ratio is, the better initial rate you will receive on a HELOC.
Over the lifetime of the loan, this variable interest rate can move up or down, meaning you will pay more or less in interest as the index moves. This can work in your favor when the economy features low interest rates, but a economic conditions may push interest rates higher, increasing the cost of your HELOC and changing your monthly payments as time goes on.
Fixed vs. variable rates: The best home equity borrowing option for you is what fits in your budget and helps you meet your long-term goals.
HELOC annual fees and other costs
There may be some fees to take out a HELOC as well. While the fees you pay will depend on your lender, the most common fees include:
- Annual fees: You may have to pay a yearly membership or maintenance fee, even if you don’t make withdrawals from your HELOC.
- Inactivity fees: If you don’t use your HELOC for a certain time period, you may be left with a fee.
- Transaction fees: Each time you withdraw from your HELOC, you may be charged a transaction fee.
- Early termination fees: Some HELOC lenders may include fees for cancellation of the HELOC.
- Minimum withdrawals: Some HELOCs required that a minimum amount is withdrawn, if you don’t meet that minimum, you may be hit with penalties or fees.
Before you commit to a HELOC lender, be sure to understand the full breadth of fees and penalties associated with the account.
Comparing home equity loan rates vs. HELOC rates in California
Interest rates for both home equity loans and HELOCs will depend on your credit rating, available home equity, and other financial factors, where a lower credit score will often mean a higher interest rate.
The length and amount of your loan can also affect your interest rates: if you are repaying your home equity loan within five years, initial interest rates in California and elsewhere may be lower when compared to a longer term option. As you spread the loan out for a longer repayment term, you will generally see this interest rate range increase. Available home equity loan interest rates in California may be found by searching for lenders online.
Keep in mind that HELOC interest rates, unlike home equity loan interest rates, are often variable and depend on the national bank rate.
Get the best home equity loan rates in California
If you’ve decided that a home equity loan or HELOC is a good option for you, these tips can help you find the best home equity loan rates in California.
Calculate your combined loan-to-value (CLTV) ratio
Knowing what amount you can receive through a home equity loan may help you focus on lenders that can meet your needs.
Your home’s combined loan-to-value ratio allows your lender to calculate the maximum amount lenders will allow you to borrow. Dividing the total of what you currently owe on your mortgage, any additional loans that you have on your home, and the desired amount for your new loan balance by the current value of your home gives you the CLTV ratio.
Lenders will offer borrowing up to a certain CLTV limit depending on their product offerings and any state-level restrictions that may apply. For example, Discover Home Loans offers home equity loans for less than 90% to residents of California.
An even easier way to find this out is by using a loan amount calculator to see how much your credit score and your home’s equity might make you eligible to borrow with a home equity loan.
Find lenders with affordable fees
The simplest way to find an affordable lender is to compare the fees associated with your home equity loan or line of credit. Discover waives all home equity loan origination fees and costs at closing, allowing you to focus your repayments on the principal and interest.
Improve your credit score
Improving your credit score by paying down debt can help you earn a better rate for a home equity loan or initial rate for a home equity line of credit.