Taking out a home equity loan while rates are rising

Interest rates are rising rapidly, and many believe they will continue to rise throughout the year. If you’re sitting on a high balance of variable interest rate debt, is now a good time to take out a home equity loan before rates climb even higher?

Key points to remember

  • No one can accurately predict future interest rates
  • Rates rise rapidly from May 2022 but remain historically low
  • Rolling over variable interest rate debt like a HELOC to a fixed rate option like a home equity loan could save you money if rates continue to rise
  • Be careful when converting unsecured debt, such as credit card debt, to debt that uses your home equity as collateral. You could lose your home if you can’t meet the payments
  • Don’t take out a home equity loan until you really need it, especially if you have out-of-control spending habits

Understanding Interest Rates

Although there is an entire industry of experts focused on analyzing market trends and predicting future interest rates, no one can predict future interest rates with 100% accuracy. Since May 2022, the Federal Reserve has raised interest rates several times this year in an effort to curb inflation. The latest half-percentage-point hike was the biggest interest rate hike in more than 20 years, and many expect rates to rise another half-percentage point in June. .

While interest rates are rising rapidly and much more than they have been since the mid-2000s, they are still historically low compared to previous decades. Between 1980 and 1990, the rates fluctuated between 9.04% and 18.45%.

How interest rates affect you

If you have a variable interest rate on something like a credit card or home equity line of credit (HELOC), interest rate increases affect you directly. When the interest rate on your debt increases, the minimum monthly payment also increases. If you can’t afford to increase your monthly payment, it’s a good idea to pay down your debt as aggressively as possible now and convert it to a fixed-rate option like a home equity loan or personal loan before rates start to drop. increase more.

Should you take out a home equity loan?

Many financial advisers specifically advise against taking out a home equity loan for anything other than financing projects that will directly impact the equity in your home. Some advisors even advise against them for any situation. Thanasi Panagiotakopoulos, certified financial planner and founder of LifeManaged, says primary residences account for more than half of a typical American’s net worth. In his view, people who see this equity as a way to get cheap home loans are hurting their future financial freedom. Panagiotakopoulos’ advice? “Don’t get a home equity loan.”

Should you convert your debts into a home equity loan?

If you already have a large balance of variable interest rate debt like a HELOC, now is the time to turn it into a fixed rate home equity loan, especially if you won’t be able to keep up with payments if your interest rates go up, shares Jessica Goedtel, Certified Financial Planner, Pavilion Financial Planning.

Seizure risk

Fixed rates for a home equity loan are lower than those for unsecured debt like a credit card or personal loan because they use the equity in your home as collateral. If you can’t repay a home equity loan, you could lose your home. Be careful about turning credit card debt into a home equity loan if you are unsure of your ability to repay the loan. Consider a fixed rate personal loan instead.

What is the difference between a HELOC and a home equity loan?

Both a home equity line of credit (HELOC) and a home equity loan allow you to borrow money using the equity in your home as collateral. A HELOC works more like a credit card: you are approved for a line of credit up to a certain amount and can choose how much of that line of credit to use. A home equity loan is generally a lump sum loan for a fixed amount with fixed monthly payments and a fixed interest rate, as opposed to a variable interest rate loan.

Can you get a tax deduction with a home equity loan?

You could potentially get a tax deduction with your home equity loan, but don’t count on it to make a significant difference to your tax bill. The interest you pay on your home loan is deductible, but only for the portion of the loan you use to buy, build, or significantly improve the home that is securing the loan. With the standard deduction so high — $12,950 for single filers in 2022 — the interest alone paid on a home equity loan isn’t usually worth itemizing deductions. Check with your tax professional to see if the breakdown could save you money.

Should I refinance or take out a home equity loan to pay for a big project?

It depends on how much money you need, the equity in your home, and the rates and fees for each option. Running a mortgage calculator comparing the two options can give you a clearer picture of what will save you money once you have lender estimates for both.

The essential

If you already have a high balance on a variable interest rate home equity line of credit, turning that debt into a fixed rate mortgage can save you money in interest if rates continue to rise like many l predicted. For any other purpose, taking out a home equity loan involves additional risks that should be carefully considered.

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