Home Equity Loan Versus Personal Loan

Find out which loan type may work best for you.

Key Takeaways

  • A home equity loan allows you to borrow against the equity you’ve built up in your home, with the property serving as collateral.

  • Unlike home equity loans, personal loans are unsecured and don’t require collateral. Instead of your home equity, lenders weigh factors such as your income, credit history and debt-to-income ratio.

  • Home equity loans typically have lower interest rates, shorter repayment terms and lower credit score requirements.

  • Personal loans have a simpler and faster application process, and more flexible loan amounts, than home equity loans.

If you own your home but need some extra cash, you may be facing the “home equity loan vs. personal loan” dilemma. And no wonder.

In mid-2021, U.S. home equity surpassed a record $25.3 trillion. That’s nearly twice the level of the last property market boom in 2006. Like many Americans, you may have built up enough equity in your home that you could now make it work for you by taking out a home equity loan.

At the same time, total personal loan debt in the United States has increased steadily since 2014 (with the exception of 2020). With only 2.28% of those with personal loans being late on their payments by 60 days or more, these loans seem to be a good alternative for the vast majority of borrowers.

What is a home equity loan?

A home equity loan is a loan you borrow against the equity you’ve built up in your home. Your equity is your home’s current market value less anything you owe on the property, such as a mortgage or any other liens.

When you take out a home equity loan, you receive a lump sum upfront, typically up to 80-90% of your equity, with the property serving as collateral. You then repay that amount in monthly installments plus interest.

Home equity loans pros and cons

Pros

  • Lower interest rates: Home equity loans typically come with lower interest rates (3-9%) than personal loans. Personal loan rates tend to start around 6%.

  • Longer repayment terms: With a home equity loan, you can expect a term of 5-15 years. Personal loan terms are 2-7 years on average.

  • Tax incentives: If you’re using the loan to purchase, build or improve your home, you can usually deduct the interest on your taxes.

Cons

You must have sufficient equity: You typically need to have at least 20% equity in the property. Many new homeowners don’t meet this requirement, and building enough equity could take years.

Your home is at risk: Because your home serves as collateral, you risk losing it if you don’t repay the loan.

Longer application process: The journey from application to approval could take a few weeks, as it normally entails an in-person evaluation of the property.

What is a personal loan?

Unlike home equity loans, personal loans are unsecured, which means they don’t require collateral.

Lenders decide whether to extend a loan based on factors such as your credit score and history, income and debt-to-income ratio, but do not consider the value of your home.

If the lender approves your application, you get a lump sum that you repay in monthly payments with interest.

Personal loans pros and cons

Pros

Hassle-free application: Many lenders now allow you to complete the process online. You fill out a form and submit electronic documentation.

Time savings: Home equity loans usually take 3-6 weeks from application to funding. With a personal loan, you can apply, get approval, and access the cash within a week or less.

Larger loan amounts: You can typically borrow up to about 80% of your equity with a home equity loan, and up to $100,000 with a personal loan.

Cons

You need strong credit: To qualify for a home equity loan, you will typically need a minimum credit score of 600. For a personal loan, lenders typically require a credit score of at least 670.

Home equity loan versus personal loan: Which one is best for you?

A home equity loan may be a good option if:

  • You have built up a significant amount of equity: If you have sufficient equity, you could borrow up to $500,000 or even more – considerably more than with a personal loan.

  • You’re looking for low rates: A lower rate means your monthly payments will be smaller.

  • Your credit score is less than ideal: It can be easier to qualify for a secured loan with a lower credit score. However, you likely won’t get the lowest possible interest rate.

  • You’re looking to buy, build or renovate your home: If so, you may be able to deduct the interest on your taxes.

In contrast, you may want to consider a personal loan if:

  • You don’t have much equity: If your equity is below 20%, you may not be eligible for a home equity loan at all.

  • You have good credit: If you have great credit, you could qualify for the lowest personal loan rates, which may be as low as around 3%.

  • You don’t want to put your home on the line: Personal loans are usually unsecured.

  • You want to borrow a smaller amount: Most banks set a minimum loan amount of $10,000 or more for home equity loans. A personal loan principal may be as little as $1,000.

In either case, you should have a good idea of how much cash you’ll need before applying, as both loan types come in lump sums. Both also have fixed rates and payments, so you’ll know what your monthly requirement will be from the start.

Home equity loan versus personal loan: The bottom line

Ultimately, which type of loan would work best for you depends on your personal goals and circumstances. To find the best option for you, you may find it helpful to speak with a professional financial adviser and compare quotes from multiple lenders before applying.

If you’re a homeowner with equity in your home, and seeking cash to pay off debt or for a major life purchase, consider alternatives to debt-based products as well. Equity-based products such as Unlock’s home equity agreement solve problems that traditional loans don’t.