Home Equity Loans And Bad Credit History

Home Equity Loans and Your Credit

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If you have bad credit, you still have a chance of getting a home equity loan. But before you start making home improvement plans or decide you need fast cash, you need to know the truth about how your credit affects your ability to get home equity loans. Having bad credit virtually guarantees that getting home refinancing or a home equity loan will be more difficult, and no precise line exists between bad and acceptable credit. But the bottom line is that there is no need for panic — getting a decent rate on a home equity loan is still possible, even if your credit is less than stellar.

What is a Home Equity Loan?

Why would anybody want a home equity loan, and why does credit matter when you're applying for one?

In the simplest terms, a home equity loan allows you to receive cash by borrowing against your home's total value. The longer you pay the mortgage on your home, the more equity you build up in it. Think of this equity as a liquid asset, a reward for making regular, on-time mortgage payments. As you continue to pay off every chunk of the "principal" — the amount of the loan you received before interest — every payment you make is yours to borrow against.

It's the dream of many Americans to be able to afford a home, and credit problems don't have to prevent you from reaching your goal of becoming a homeowner. And since buying a home is arguably the biggest investment most people will ever make, home equity loans allow you to turn that investment into cash. As you put money back into your home by either improving or expanding it, you can get a better loan rate. Why? Because you are already part owner of your home (the bank you borrowed from owns the rest). Think of it as a separate savings account, a bargaining chip for your financial future. Just as it is for most Americans, your biggest single asset is your home.

Can I consider home refinancing if I have bad credit?

When it comes to refinancing, your decision should be based on how much money you will ultimately save by paying now ... or by paying later. This usually comes down to how long it takes to completely pay off a loan. When you decide to refinance at either a lower or higher rate (as compared to your then-current home mortgage loan rate), you should first consider how long you expect to live in your home.

Second, you must consider potential upfront fees, commonly referred to as "points," with one point equal to 1% of the entire loan amount. If you know you have bad credit, you can still consider refinancing; you just need to know that your chances for getting a low premium loan rate are less than if you maintained good credit (link to "How to Maintain Good Credit").

What is considered a "good" home equity loan rate — even with "bad" credit?

Remember that your ability to manage your debt is the biggest way companies judge you. Once you prove that you can pay back loans on time, you will be allowed to borrow more at better overall loan rates. Obviously, if you have trouble managing your debt responsibly, that will probably result in higher rates on any loan you're applying for. If you have "good" or "average" credit score, you are probably eligible for whatever the prime interest rate is, plus ¼%. The then-current real estate market determines the prime rate, so that will depend on when you apply for the home equity loan.

If you have decidedly "bad" credit, things can become more complicated. But home equity loans have never been more prominent. And unlike a home mortgage loan, where you pay against the "principal," a home equity loan is all based on interest payments. There is no principal. So when you decide to borrow against your home, consider how long you plan to live there. If, for example, you pay off the loan ahead of schedule, you can essentially cash out the difference before you relocate. It's much like paying a loan back to yourself — ahead of a previously determined payment schedule.

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