About Home Equity Loan Interest Rates
If you are borrowing money on your home, it is best to know how the interest rate on that loan is calculated. Borrowing money on your home will mean that you lose equity in your most valuable asset-your home. So, to get the most out of this investment, compare rates and learn a little bit about the interest rates themselves. If you are consolidating debt, you should compare the total finance charges to see if taking out the loan is a good idea. With an equity loan you can also make improvements to your home, which in turn builds more equity. But the rate will determine if this is a sound investment.
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The Facts
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Home equity interest rates are affected by the Federal Reserve Discount Rate, which is the base percentage rate at which banks can borrow money from the Federal Reserve. They can then loan this money to you or other banks. The two are not always the same, however. The benchmark for home equity loan interest rates is the Prime Rate. This is a survey taken of the rates that banks are giving to their preferred customers. These rates can change often, and are affected by the overall market and economy. The bank sets the interest rate it will offer you by taking into account the market for new loans, the risks (determined by your credit score) in lending you money, and other external factors like the amount of money it is already lending out and so on. Other variables, which include the amount of equity in your home already, and how you plan to use the loan (to consolidate debt, renovate your home, take a vacation) could also influence your rate and/or terms.
Misconceptions
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Most people might believe that when the Federal Reserve cuts rates that equity rates will also go down. That is not always the case because the rates the Reserve are lowering are short-term rates. These short-term rates generally dictate the rate that banks charge each other to borrow money. Your home equity rate is a long-term rate. Several other factors will affect the base rate of home equity loans, and generally speaking, it is up to you to negotiate the best rate. You can do this by shopping around at different banks and finding the lowest rate.
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Significance
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The interest rate is very significant when searching for a home equity loan. A higher interest rate is going to result in a higher payment. Keep in mind that you will not save as much money if you are planning on consolidating your credit card debt. If you are planning on remodeling, a higher interest rate will mean a larger payment each month. It will also mean you are gaining less equity back in your home. So, if you are taking the loan out just to remodel and get a higher sales price in a few years, keep in mind that you will not gain back as much equity, and that cuts into your profits when you sell.
Identification
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The amount of interest you pay is usually referred to as a finance charge, and the amount you would owe in a year is calculated by multiplying the interest rate by the amount of the loan (For example: 10 percent interest on a $10,000 loan, the interest for one year would be $1,000). This is not the same as points, which are a percentage of the loan you pay upfront, as a fee, to reduce the interest rate you pay on the loan. Other fees include brokerage fees, underwriting fees and application processing fees. A typical home equity loan rate can be as low as 4 percent and as high as 15 percent. Check your credit score, then call a few banks to find out what loans they offer. Remember, the interest rate is always negotiable and sometimes this figure just depends on how much your lender thinks you need or want the loan.
Features
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Interest rates on equity loans typically consist of a base rate, and if applicable, a floating rate or adjustable rate, that changes in relation to the Prime Rate or federal rate, or another benchmark. This additional rate is determined by the bank and is added to the base rate you are given when conditions change. These conditions can be set by time or the markets. The additional rate might be quoted as "above prime"; this is just a term the bank uses to show how much above prime the rate is. The second part of your interest rate may involve points or fees. The fees are closing costs or transaction fees the bank charges for processing the application, underwriting or broker "costs." Points are a percentage of the loan amount that you pay upfront at closing. These points mean you will pay more for your loan upfront and less over time, because when you pay a point, the interest rate goes down.
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