Personal Loans vs. Home Equity Loans

Personal loans and home equity loans are both financing options that can help pay for large expenses, including medical expenses and home improvements. Deciding which loan option is right for you depends on a variety of factors, such as income and credit. Here’s what to know about how personal loans and home equity loans work and how to decide which loan can suit your needs.

How personal loans work

When approved for a personal loan, a borrower receives a fixed amount of money. The borrower pays back the loan with interest over a fixed period of time. Payments are typically paid monthly, and the loan repayment length can last from a few months to a few years. Personal loans can range from a few hundred to several thousand dollars. The lender will review an applicant’s financial history to decide whether they qualify for the loan.

The loan amount you can receive may depend on your credit score, credit history, income, and debt. Two types of personal loans available are secured and unsecured personal loans. A secured personal loan is backed by collateral. Examples of collateral include a savings account or a certificate of deposit. If you don’t make payments, the lender may claim the asset used as collateral as payment for the loan. An unsecured personal loan, on the other hand, isn’t backed by collateral.

How home equity loans work

A home equity loan is commonly referred to as a second mortgage. If you’re a homeowner, you can borrow money and use the equity of your home as leverage. Similar to personal loans, you can receive a lump sum and pay it back in monthly installments. With home equity loans, the monthly payment and the interest rate are fixed.

The loan amount you can receive is usually based on the difference between the current market value of your home and the mortgage balance that’s due. Homeowners can use the money to pay for home improvements, a vehicle, and other large expenses. The term length of a home equity loan is typically around five to 20 years.

Difference between personal loans and home equity loans

Personal loans and home equity loans differ in how quickly a borrower is funded and how long the repayment terms are. You can usually receive a personal loan within a week, or in some cases, within the same day of approval. The process of receiving a home equity loan, on the other hand, can sometimes take three to six weeks. Home equity loans also have longer repayment terms, sometimes lasting as long as 30 years. You can usually pay back a personal loan within a few months to a few years. Additionally, not all personal loans require collateral, whereas all home equity loans require equity of a homeowner’s home as leverage.

How to decide which loan is right for you

Deciding between a personal loan and a home equity loan can depend on your financial circumstances. If you have to cover a smaller expense, it may be smart to get a personal loan. Individuals with good credit may qualify for low personal loan rates. And if you don’t have a great credit score but a lot of equity in your home, a home equity loan may be ideal. Borrowers should consider their financial goals before deciding on which loan to apply for.