With a home equity loan, you borrow a lump sum you repay in installments with interest. With a HELOC, you have a revolving line of credit you can draw against for a set time with minimal monthly payments until the repayment period begins.
What are the requirements for a home equity loan or HELOC? Understanding what lenders consider can help you determine whether you might qualify for a home equity loan or HELOC.
In this guide:
- What are home equity loan and HELOC requirements?
- Credit score requirements for 2 home equity lenders
- Loan-to-value requirements for 2 home equity lenders
- How do home equity loan requirements vary by lender?
- What are the federal or state lending requirements?
- Alternatives to home equity loans
What are home equity loan and HELOC requirements?
Requirements differ from lender to lender, but you can expect most institutions’ home equity loan and HELOC requirements to be the same.
For home equity loans and HELOCs, the lender evaluates the risk of giving the borrower a maximum dollar amount against the equity in a collateral property. Lenders base their risk assessment on several specific factors, and it’s helpful to understand how the factors work together.
Credit scores are at the top of most lenders’ home equity loan requirements list. Lenders use credit scores to gauge how likely you are to repay.
Lenders can decide where to set the bar when establishing minimum credit score requirements. For example, one lender might accept borrowers with FICO scores in the “fair” credit range while others may prefer to work with homeowners who have “good” to “excellent” credit scores.
Credit score requirements for 2 home equity lenders:
As a rule of thumb, a higher score can work in your favor when you apply for a home equity product. A good score suggests you’re responsible with credit, which can make it easier to get approved. You may also qualify for lower interest rates, which could affect the total cost of borrowing over the long term.
Income is another important consideration for lenders to approve home equity loans or HELOCs. Many lenders want to see a stable monthly income that allows you to make your payments in addition to the payments to your primary mortgage. However, several lenders will approve self-employed borrowers for HELOCs and home equity loans.
Lenders may require you to submit one to two years’ worth of supporting documentation to demonstrate your income. The documentation you may need includes:
- Pay stubs
- W-2s or 1099 statements
- Tax returns
- Profit and loss statements or cash flow statements (if you’re self-employed)
Your lender may not specify a minimum income threshold, but the higher yours is, the better. You might consider increasing your income before applying for a home equity product. It can help improve your debt-to-income (DTI) ratio. We’ll discuss DTI in more detail below.
Amount of equity
It might seem obvious, but you’ll need equity in your home to qualify for a home equity loan or HELOC. Equity is the difference between what you owe on the home and the fair market value when you apply for the loan.
The loan you can qualify for is limited by the equity you have in the property. Generally, lenders’ LTV requirements for a home equity loan or HELOC are at least 10%. Lenders use the amount of equity you have to calculate your loan-to-value (LTV) ratio.
The loan-to-value ratio compares what you still owe on the mortgage to the property’s appraised value. A lower LTV increases your odds of being approved for a home equity loan. It also determines the maximum amount you can borrow with a home equity loan or HELOC.
Calculate your current LTV and how much you’re eligible to borrow with our home equity loan calculator for a better idea of what you’re likely to qualify for.
Loan-to-value requirements for 2 home equity lenders:
As we mentioned, lenders will consider your debt-to-income ratio (DTI), the percentage of your gross monthly income that goes toward debt repayment. Lenders calculate DTI based on your current debt obligations plus your expected payment for the home equity loan or HELOC.
A lower DTI is better. It suggests you have sufficient income to meet all your debt obligations. A higher DTI could put you at greater risk of default if you can’t keep up with your debt payments.
This is where the requirements may vary for the home equity loan and the line of credit. Lenders typically look for a DTI of 43% or below with home equity loans. But with HELOCs, some lenders may allow a maximum DTI of 50%.
If your DTI is close to or at the limit for a home equity loan or HELOC, you have several options to decrease it, including:
- Find ways to increase your income. For example, get a part-time job, increase your hours at work if you’re paid hourly, or start a side hustle.
- Pay down some of your debt. Whether that’s feasible can depend on your cash flow and what you have in savings. But the more debt you can eliminate, the better your approval odds might be when applying for home equity products.
How do home equity loan requirements vary by lender?
Home equity loans and HELOCs are subject to underwriting, and this process and the requirements for approval are different for every financial institution. Every lender has its own rules for measuring risk, gauging the probability of default, and qualifying borrowers for loans or lines of credit.
Lenders can provide guidelines regarding credit scores and maximum loan amounts. You can find these details on the lender’s website or by calling its customer service.
Comparing home equity product requirements at different lenders can give you an idea of where you might have a better chance of getting approved. And remember that credit unions, traditional banks, and online banks can all handle home equity products differently.
>>Read more: Best non-owner-occupied HELOCs
Credit union home equity loan requirements
A credit union is a not-for-profit membership organization that operates for the benefit of its members rather than focusing on the bottom line. Credit unions tend to have more flexibility in their lending guidelines than banks and can accept a higher level of risk.
Credit unions may charge lower rates and fewer fees for home equity borrowers as an added benefit.
You must meet membership requirements to apply for a home equity loan or HELOC. Membership requirements vary by credit union and may be based on where you work, attend school, live, or worship.
Traditional bank HELOC requirements
Brick-and-mortar banks tend to be strict about their guidelines and underwriting standards compared to credit unions. For instance, you might need a higher credit score or more equity in the home to qualify.
Having accounts at the bank and a good banking history could benefit you if you qualify for rate discounts or more favorable loan terms. It may also be easier to navigate the application process if you’re working with a trusted banker.
Online bank borrowing requirements
Online banks can be appealing for a few reasons. For instance, you might find that home equity loan rates or HELOC rates are lower at online banks, or the bank may charge fewer fees, so you pay less in closing costs.
An online bank may have stricter requirements than a traditional bank to qualify for the best home equity loan rates or HELOC rates. On the other hand, some online lenders specialize in offering loans to people with lower credit scores. You might consider that option if a regular bank turned you down.
When comparing options, it’s important to read the fine print so you know what you’re getting. For example, it’s possible to find lenders offering interest-only HELOCs, which can lower your payments during the draw period. But that can lead to higher payments over the long haul, which could make it more difficult to repay what you owe.
What are the federal or state lending requirements?
A few federal and state regulations regarding home equity loans and HELOCs exist. The federal government sets a maximum legal interest rate for a HELOC of 10% above the U.S. Treasury rate for second liens.
States may have individual laws limiting how much lenders can charge for origination fees and other closing costs. Federal regulations also set the 43% maximum debt-to-income ratio on home equity loans.
A change to federal tax law now limits the tax deductibility of mortgage interest on home equity loans and HELOCs. Borrowers can only deduct the interest paid on either loan option if they use the proceeds for a major home improvement.
Alternatives to home equity loans
If you don’t meet the requirements to qualify for a home equity loan or HELOC, you might consider other possibilities.
Depending on your needs and situation, home equity loan alternatives can include:
- Cash-out refinancing. With a cash-out refi, you replace your current mortgage with a new one. You can withdraw your equity in cash at closing.
- Personal loans. You can use personal loans to cover a variety of expenses, from medical bills to debt consolidation to home improvement projects. The application process for an unsecured personal loan often is simpler because they don’t require collateral.
- Line of credit. A line of credit is a revolving credit limit similar to a credit card. Banks and credit unions can offer secured or unsecured lines of credit to borrowers who meet their requirements.
- Credit cards. You may find it easier to get approved for a credit card than a loan. Keep in mind: If you take a cash advance from a credit card, you could pay a much higher APR and a cash advance fee.
Regardless of the route you take, it’s important to do your research beforehand. Shopping around can help you find the best loan or line of credit at the most attractive rate based on your financial circumstances.