5 Disadvantages Of Home Equity Loans


Is A Home Equity Loan Right For You?

You have often heard that there are many benefits of home equity loans. If you tap into the accumulated equity in your property, it’s a relatively easy way to have access to cash. But there are drawbacks as well. If you are pulling equity out of your home, it is important to consider the disadvantages you may face. Let’s take a look at five of them:

SEE ALSO: Home Equity Loans: The Ins And Outs

1. Risk Of Foreclosure

The number one drawback of a home equity loan is that you can lose your property if you fail to make payments. During the course of a loan’s repayment term, there are so many problems that can arise; you might lose your job or have a health emergency, which can make it difficult or impossible to repay your mortgage. Failure to pay means that the bank can foreclose on your home. To prepare for this risk, set aside an emergency fund that’s deep enough to pay your home equity loan for at least six months, just in case you lose your main source of income.

2.  Adding Value May Add Only Headaches

Many homeowners take out home equity loans because they want to make repairs or improvements that they believe will increase the value of their property. The problem is that there is no guarantee that the value will increase. There is always the possibility that the improvement will not cause any significant gains, or that your property could decline in value, due to a housing market slump. In addition, using most or all of your equity could leave you with little room to maneuver in case you need to sell the property quickly.

3. Higher Monthly Payments

When you take out a home equity line of credit (HELOC), your interest rate is variable. In a period of rising interest rates, you can see your monthly payment increase – and increase, and increase.

4. Misunderstanding Tax Benefits

Some interest on home equity loans is tax-deductible, but not all of it. And if you deduct more than Uncle Sam allows, you could get into trouble with the taxman. Your first step is to review IRS Publication 936 to make sure you know the latest rules. Or consult your tax advisor to confirm how the rules apply to you.

SEE ALSO: Mortgage Savvy: The Good Faith Estimate

5. Late Payments Can Be Costly

If you miss a payment on a home equity loan, you will be hit with late charges, which can be costly. Also, late payments can cause a ding on your credit report, causing your score to drop. Home equity loans come with both benefits and drawbacks. That is why it is important that you weigh the pros and cons of these types of loans before taking on the additional financial responsibility.
Date of original publication:
Updated on: November 10, 2015

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