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Home equity line of credit and home equity loans: 'Right tool at the right time'

Homeowners are sitting on an estimated $20 trillion worth of home equity, boosting the demand for home equity lines of credit and home equity loans.

HELOC activity grew to the highest level since the first half of 2007 in the first two quarters of 2022, according to CoreLogic.

During that period, lenders originated more than 807,000 new HELOCs, totaling almost $131 billion. Both HELOC counts and amounts have increased by 30% year-over-year in 2022.

Meanwhile, mortgage rates went form from hovering around 3% to 7% this year – combined with high home prices to dramatically reduce the number of people looking for mortgages this year.

Mortgage applications, after setting a record in 2021 at $4.4 trillion are expected to shrink to $1.52 trillion in 2022, according to recent projections by Fannie Mae.

Home values appreciated during the red-hot pandemic market, boosting equity to $20 trillion, up from $16 trillion in 2021 and $12 trillion in 2012, according to a study by TransUnion.

This is both good and bad for the housing industry, says Jeff Taylor, founder and managing director at MphasisDigital Risk and board member at the Mortgage Bankers Association.

“Homeowners who once considered selling their house and moving up are now firmly entrenched as they don’t want to leave a 3% interest rate for 7% and are using their equity to put money back into home renovations or additions to give them what they need,” he says. “The good news is that from an origination standpoint, many lenders and banks have been able to quickly make the shift to HELOC products and keep people employed.”

Housing market: Pending home sales plunge for fourth straight month

A HELOC allows homeowners to borrow as much as 85% of the value of the home, and repay and redraw as needed.

So far in 2022, Seattle has the highest amount of approved HELOCs, totaling almost $610 million, for an increase of 63% from 2021. Los Angeles followed with $606 million, while Phoenix ranked third at $504 million.

"In general, markets with the stronger home price appreciation over the past two years are among those with the most HELOC activity and largest growth as well. These areas have gained home equity higher than the national average," Archana Pradhan, principal economist, CoreLogic told USA TODAY.

How much has home equity grown?

CoreLogic analysis shows U.S. homeowners with mortgages (roughly 63% of all properties) have seen their equity increase by a total of over $3.6 trillion since the second quarter of 2021, a gain of 27.8% year over year.

HELOC vs. a home equity loan?

Both HELOC and home equity loans allow you to borrow against the equity built up in your home.

While home equity loans provide you with a lump sum amount that you’ll pay back in fixed installments over a predetermined period, a HELOC is a revolving line of credit. During the draw period, you can borrow up to a certain credit limit set by the lender, which becomes available again once you pay back the borrowed amount.

What is required to qualify for a HELOC?

Many mortgage lenders require minimum credit scores of above 650, says Michele Raneri, TransUnion’s vice president of Financial Services Research and Consulting.

Lenders also require that borrowers have around 20% equity in their home to qualify, she says.

“They need to have at least 20% of their equity available that they don't have another mortgage on.”

Banks also usually don’t do less than $10,000 in home equity line of credit, she said.

Should you get a HELOC or home equity loan?

“HELOCs and home equity loans are important right now because they are the right tool for the right time for consumers,” says Ranieri.

While with cash-out refinance, you’re refinancing the entire house, given the higher interest rates, home equity line or loan makes sense because it allows you to peel off just the piece that you need from your equity, says Raneri.

“And while the interest rate may be higher than what your mortgage is, you're only financing that portion at a higher amount,” she says.

What should people consider when they take a home equity loan?

Considering that homebuyers are using their home as collateral, those considering the loan should know how they're going to repay it.

“If they're taking it out, they should know that they have the income to be able to repay it,” says Ranieri. “And they should make sure to shop around for the best rates.”

“There's a little bit of a stigma, I think, or a concern that people have from the great recession because there were a lot of home equity loan delinquencies,” says Ranieri.

But the stronger mortgage underwriting standards this time around should guard against that, she believes.

Are there good uses and bad uses of a home equity loan?

“It’s a great time to open up a home equity account, but just to make sure that they have a clear vision of what they want to use and money for,” says Taylor. “There are uses for HELOCs that make sense and those that could end up getting the borrower in worse shape.”

While the best uses for HELOCs are for reinvesting back into the home to help maintain or even improve the value of the home such as additions, renovations and major repairs are all good uses of a HELOC.

Many borrowers choose to use a HELOC as a debt consolidation tool. HELOC rates are adjustable according to market conditions but are typically lower than credit card rates, some auto loan rates, and student loan rates.

The lower the interest rate, the more money borrowers can free up each month to pay down the balance or use toward other financial goals.

The trouble begins when borrowers use their HELOCs too much like a credit card – to fund lifestyle expenditures and not reinvest back to the value of the asset.

“Where I give caution is for people to take home equity line and go on vacation or buy a new car, what have you.”

Swapna Venugopal Ramaswamy is a housing and economy correspondent for USA TODAY. You can follow her on Twitter @SwapnaVenugopal and sign up for our Daily Money newsletter here.

This article originally appeared on USA TODAY: Home equity line of credit surged by 30% in 2022 from 2021