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Home Equity Loans

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Home equity loans are an attractive borrowing tool for many people. After all, the interest is tax deductible, the rates are usually lower than those on other types of loans, and they're easy to obtain. But there can be a downside, and you should know what it is.

With a home equity loan or line of credit, you can borrow up to 80% of the equity in your home. For example, if your home is valued at $125,000 and your mortgage balance is $50,000, you could borrow up to $60,000 (80% of your $75,000 equity).

Home equity loans should not be used lightly. Keep in mind that you're putting your home up as collateral on the loan. If you fall behind on the payments, you could lose your home through foreclosure, where the lender takes ownership of the property and sells it in an attempt to recoup the money they lent you.

Many people refinance their mortgage or take out a home equity loan to take advantage of the equity in their home. They then use the money for purchases, vacations, and other expenses, counting on the house appreciating in value to cover these expenditures once they sell. If it doesn't, they owe more than the house is worth and are "upside down" on their loan.

Being "upside down" on your loan means that you owe more than your home is worth, and this can easily happen if real estate values fall. If you try to sell your home under these circumstances, you will incur losses that you will have to pay for out of your own pocket when you pay off your mortgage at the time of the sale. This can cause severe financial hardship or can force you to stay in a house you no longer want to live in.

Just because you have equity in your home doesn't mean you can afford the monthly payments of an additional loan. Be sure to do a careful analysis of whether the home equity loan payments fit comfortably into your budget.

Home equity loans are best used for home improvements that will increase the value of your home. Some improvements, such as swimming pools, don't usually increase the value upon resale. Others, such as additional bathrooms, living space, renovated or updated kitchens, etc., generally do increase the value of your home.

The bottom line is this: if your home is worth more than you owe on it, a home equity loan can be a great way to take advantage of this, but it can also get you into serious financial trouble, and should be used wisely. Why not use the equity in your home as part of your retirement fund instead of spending it on things that may not last?

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