A home equity loan makes sense if:
- You’re happy with your current first mortgage rate and want to leave the balance alone
- You want a fixed-rate loan with a stable monthly payment
- You have specific renovations you want to make and a set timeline for completing them
- You’re paying off high-interest-rate revolving debt
- You’re covering higher education costs
- You’re buying a rental property
- You’re expanding or starting a business
- You’re avoiding mortgage insurance with a piggyback loan
Home equity loan requirements
Guidelines for home equity loans are usually more stringent than first mortgage cash-out refinance loans. Although the rules will vary from lender to lender, you’ll typically need to meet the following general requirements to qualify:
43% maximum DTI ratio. Lenders divide your total debt by your pretax income to calculate your debt-to-income (DTI) ratio. The standard home equity guideline maximum DTI ratio is 43%.
620 minimum credit score. Although lenders may set the bottom score limit at 620, others may set higher minimums between 660 and 680. If you’re looking for a home equity loan with bad credit, expect a higher rate and more limits on your maximum DTI or LTV ratio.
85% maximum LTV ratio. You’ll usually need at least 15% equity to get a home equity loan. However, some specialty home equity loan lenders will set LTV ratios at 90% or higher.
Owner occupancy. Some home equity lenders allow you to borrow on a second home or investment property, but at much lower LTV limits than a primary residence. You’ll get the best rates and highest LTV ratios if the home equity loan is secured by a home you’re living in.
Can I get a home equity loan with bad credit?
Although it’s possible to get a home equity loan with bad credit, you may not qualify for as much as you need or want. Lenders may reduce your maximum LTV ratio and will probably charge you a significantly higher interest rate. If your scores are below 620, consider a government-backed cash-out refinance program. Here are a few worth noting:
- FHA cash-out refinance. The Federal Housing Administration (FHA) insures loans for borrowers with credit scores as low as 500 on an FHA cash-out refinance. A couple of caveats: You’ll pay expensive FHA mortgage insurance and won’t be able to borrow more than 80% of your home’s value.
- VA cash-out refinance. Eligible military borrowers may be able to tap up to 90% of their home’s value with a loan guaranteed by the U.S. Department of Veterans Affairs (VA). VA cash-out refinance guidelines don’t set a minimum credit score, but many lenders set theirs at 620.