Your Money_ The Missing Manual - J. D. Roth [108]
A home-equity loan (or HEL) is a second mortgage that generally has a fixed interest rate and a term of 10 to 15 years. Basically, it lets you borrow money from your bank using your home's equity as collateral.
A home-equity line of credit (or HELOC) is also a second mortgage, but takes the form of a revolving credit account, much like a department store credit card. With one of these, you can borrow money repeatedly as long as you don't exceed the HELOC's upper limit. These loans generally have variable interest rates and a 10-year term.
Traditionally, people have used HELs and HELOCs to pay for home improvements, like remodels and additions. But you could also use them to pay medical bills, send the kids to college, or even pay off credit cards. (The recent credit crisis has put a damper on these sorts of loans; falling home values and stricter lending standards mean it's tougher to take out a second mortgage.)
Using home equity to pay off debt can be an appealing option: The interest rates on HELs and HELOCs are much lower than those on credit cards. And if you've got balances on several credit cards, it's likely that your combined card payments are higher than the single payment on a home-equity loan would be. Plus, in most cases, interest on a home-equity loan is tax deductible, just like mortgage interest.
Still, home-equity loans aren't magical cure-alls; they don't eliminate debt—they just shift it around. If you don't change the habits that led you into debt in the first place, you could end up in worse shape in the long run. And there are serious risks that come along with using home equity to pay down credit card debt: If something goes wrong, you could lose your house!
For more about how to tap your home's equity wisely, see http://tinyurl.com/MSN-equity.
Making Mortgage Payments
Paying a mortgage is just like paying any other debt—except there's a lot more riding on it. If you don't pay your car loan, all you lose is a way to get around. But if you don't pay your mortgage, you could lose your home. So make it a priority to pay your mortgage on time and in full every month.
As you're making payments, there are a couple of things to keep in mind. First, you should get rid of private mortgage insurance as soon as possible. Second, decide whether accelerating your mortgage payments make sense for you. The next two sections have the details.
Private Mortgage Insurance
Lenders require private mortgage insurance (PMI) from homebuyers who take out loans for more than 80% of a property's value. So if you buy a house with a down payment of less than 20%, you'll probably have to carry PMI.
Note
If you can't afford a 20% down payment, you may be able to bypass PMI by taking out a second mortgage when you buy the house. This second loan—commonly called a piggyback loan—usually takes the form of a home-equity loan or a home-equity line of credit (see the box on Making Mortgage Payments).
Though you can cancel PMI once you have 20% equity in your home (whether because home prices have increased or because you've made payments to the principal), lenders aren't required to automatically cancel PMI until you've repaid 22% of the loan. That means you need to stay on top of things so you don't keep paying for PMI any longer than you have to.
To find out whether you're paying PMI, check your most recent mortgage statement. If you are, do whatever you can to cancel it as soon as possible. Make extra mortgage payments. If home values in your area have risen, have your house re-appraised. (But note that not all lenders will drop PMI based on a new appraisal; some require you to refinance.) When you have at least 20% equity in your house, contact your lender and ask to have the PMI removed. Doing so could save you thousands of dollars.
Tip
For more on PMI, check out this article at OmniNerd.com: http://tinyurl.com/pmi-on.