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Knowing the Pros and Cons of Tapping Home Equity

Editorial Note: The editorial content on this page is not provided or commissioned by any financial institution. Any opinions, analyses, reviews, statements or recommendations expressed in this article are those of the author’s alone, and may not have been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

Building up home equity remains one of the key benefits to purchasing a home. That equity — the amount of the home’s value you own less the mortgage debt still owed — can provide a key source of cash when needed. For example, the proceeds from drawing from home equity could be used to pay off major expenses or renovate or upgrade your house.“Rather than buying a new house, a lot of people will remodel and do upgrades to their house,” said Tendayi Kapfidze, chief economist for LendingTree, the parent company of MagnifyMoney.

However, home equity should not be treated as a secret stash under the mattress. There can be real benefits but also real drawbacks to tapping home equity. It’s important to research and evaluate those pros and cons prior to deciding to do this.

When it comes to drawing funds from your home equity, there are three primary ways to do so. These are a home equity loan, a home equity line of credit, HELOC, and a cash-out refinance.

Home equity loan

Simply put, a home equity loan provides the homeowner with a total loan amount at one time. That loan amount is determined by a variety of factors, including the amount of equity in the home, the homeowners’ income and credit history and market value of the home. This loan must be repaid within a specified term with a fixed interest rate, resulting in a set monthly payment amount.

The pros of a home equity loan include a lower interest rate compared with rates for other types of loans. Even as we enter a rising interest-rate environment, interest rates on home equity loans continue to be less than those of other loan types because the loan is secured by the home. Also, because the monthly payment is set, homeowners know what they are expected to pay and can budget accordingly for the term of the loan.

The primary con of a home equity loan is the risk of using the home as collateral. As such, if the homeowner is unable to pay off the loan, the lender may foreclose on the loan, forcing the homeowner to sell. Home equity loans also include a variety of associated costs, such as an appraisal of the home, application fees, title fees and other costs. Plus, because you receive all the money upfront, interest on a home equity loan starts to accrue from day one.

Because the lender approves a maximum amount for the home equity loan, the homeowner may be tempted to take out a loan for the full approved amount, even if it’s more than what is needed. But this could overextend the homeowner, making it more difficult to repay the loan.

Home equity line of credit

Another way to tap into home equity is through a home equity line of credit, HELOC. Similar to a credit card, a HELOC is a revolving line of credit based on the amount of home equity you have. Like a credit card, there is a maximum amount available, although the homeowner is not required to use it all at once like a home equity loan. Instead, you can draw upon the HELOC as needed up to the full approved amount.

Also like a credit card, a HELOC is repaid using a minimum monthly payment amount with interest. That interest rate could be fixed or variable. If variable, then those monthly payments could vary as well.

One key differentiator of a HELOC comes when the balance is due. Many HELOCs require a balloon payment — the majority of the final balance — at the end of the loan term. This could be difficult to pull together in a short period of time.

Like a home equity loan, the pros of a HELOC include lower interest rates as well as low, or no, fees, depending on the lender. And, unlike the “once and done” withdrawal of a home equity loan, the homeowner has flexibility to draw upon the HELOC as needed up to the maximum amount. As such, interest only accrues when money is owed on the line of credit.

Of course, a HELOC shares the same primary con as a home equity loan in that the homeowner uses the property as collateral. Therefore, if the homeowner fails to make payments, the home could be at risk. And because the HELOC may have a variable interest rate, that rate may increase, thus increasing the overall costs of the HELOC.

At their discretion, lenders may lower or freeze a line of credit over the course of the loan term. This could result from a declining credit score or a poor payment history for the homeowner.

Previously, another benefit to a HELOC was claiming the interest on lines up to $100,000 as an itemized tax deduction. However, after December 2017, this benefit was changed under the Tax Cuts and Jobs Act of 2017. Going forward, interest on lines up to $100,000 may be deducted only if the money is used for home improvement projects. Interest on any monies from a HELOC used for other expenses cannot be deducted.

Cash-out refinance

Homeowners also have the option of doing a cash-out refinance of their current mortgage in order to tap their home equity. Essentially, you build up equity in your home through payments on the principle of your existing mortgage as well as through an increased home value.

As a result, your current home equity may be more than what you owe on your current mortgage. If so, you can refinance your current mortgage for more than what you owe, using that money to pay off the first mortgage and pocketing the difference.

The reasons for a cash-out refinance include lowering the interest rate or using the cash for renovations or to pay specific expenses like college tuition or medical costs.

For many, lowering the interest rate is a primary motivator for a cash-out refinance. But Kapfidze warns against looking at the interest rate alone. If you have one rate for your existing mortgage that has a remaining term of 20 years, and the cash-out refinance comes with a lower interest rate for 30 years, do the math to determine if you are actually paying more with the cash-out refinance.

“You almost have to calculate a blended rate,” Kapfidze said.

With a cash-out refinance, the cons could stack up. This loan operates like a primary mortgage, so the same costs, like appraisal fees and closing costs, are included plus the possible addition of private mortgage insurance, PMI, premiums. Also, because you’re borrowing a larger amount than you previously owed, the loan term may be longer on a cash-out refinance.

Making a choice

When choosing the best way to withdraw cash from your home equity, it’s important to research each avenue for tapping into home equity and evaluate the pros and cons of each. Take it a step further, and consider why you want the loan.

“The way to approach it is to figure out which loan best suits your particular need of what you’re trying to do and utilize that loan,” Kapfidze said. “It really depends on the individual circumstance of what someone is planning to do with the money.”

Part of the selection process should also examine repayment of the debt, regardless of which you choose. “Make sure you have a plan for how you’re going to pay it back,” Kapfidze said. “Make sure it fits in with your overall financial profile.”

This article contains links to LendingTree, our parent company.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Karon Warren
Karon Warren |

Karon Warren is a writer at MagnifyMoney. You can email Karon here

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Guide to Getting a Federal Housing Administration (FHA) Mortgage

Editorial Note: The editorial content on this page is not provided or commissioned by any financial institution. Any opinions, analyses, reviews, statements or recommendations expressed in this article are those of the author’s alone, and may not have been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

Couple Celebrating Moving Into New Home With Champagne

Not all homebuyers have the money to make a traditional 20% down payment. The perception that you need one is one of the main financial obstacles that can discourage people from pursuing homeownership.

In reality, there are several options for buyers who want to get a mortgage but can only pull together a small down payment. One of the best ones, particularly for first-time homebuyers, is an FHA loan.

This article offers you a guide to getting an FHA mortgage, including details on how to qualify and the costs to consider.

Understanding the FHA mortgage program

FHA mortgages are insured by the Federal Housing Administration (FHA), part of the U.S. Department of Housing and Urban Development. The program is a key way that people of moderate income can become homeowners. Nearly 83% of homeowners who borrowed an FHA loan in 2018 were first-time homebuyers, according to a report from HUD.

FHA mortgages are funded by FHA-approved lenders and then insured by the government. This backing protects lenders from loss if borrowers default. Because of this protection, lenders can be more lenient with their qualifying criteria and can accept a significantly lower down payment.

You can get approved for an FHA mortgage with as little as a 3.5% down payment and a credit score of 580. You may also qualify with a credit score as low as 500, though you’ll need to put down 10% instead.

On a $200,000 home, that comes out to a down payment of $7,000 to $20,000 when taking out an FHA loan, depending on your credit score.

Keep in mind you’ll also be responsible for closing costs, which typically cost 2% to 5% of a home’s purchase price. Closing costs are necessary to complete your transaction, and include services such as appraisals and home inspections. However, you may be able to negotiate to have some of these costs covered by the seller.

Is an FHA loan right for you?

FHA loans are particularly suited for several different types of homebuyers.

First-time homebuyers, who often have lower credit scores and smaller available down payments, tend to gravitate to FHA loans. Additionally, boomerang buyers — people who lost a home in the past due to a bankruptcy, foreclosure or short sale — might also benefit from an FHA loan.

Negative credit events such as foreclosure can drop credit scores by more than 100 points in many cases, and there’s typically a waiting period of three years before you’re eligible to buy a home again. Once that’s up, the lower credit score requirements of the FHA loan program could help you become a homeowner again.

Types of FHA mortgages

The FHA offers both 15- and 30-year mortgages, each with fixed rates or adjustable rates.

With a fixed-rate FHA mortgage, your interest rate is consistent through the loan term. You know what your principal and interest payment will be for the life of the mortgage. However, your overall monthly payment may increase or decrease slightly based on your homeowners insurance, mortgage insurance premium and property taxes.

Adjustable-rate FHA mortgages start out with a low and fixed interest rate during an introductory period of time, usually five years. Once the introductory period ends, the interest rate will adjust annually, which means your monthly mortgage payments may increase based on market conditions.

A unique situation where signing up for a low, adjustable-rate FHA mortgage could make sense is if you plan to sell or refinance the home before the introductory period ends and the interest rate changes. Otherwise, a fixed-rate FHA mortgage has predictable principal and interest payments and may be the better option.

FHA loan limits

The FHA imposes a limit on the amount of money that homebuyers are allowed to borrow each year. For 2019, the FHA loan limits for one-unit properties are $314,827 in most U.S. counties and $726,525 for high-cost areas. You can find your county’s loan limit information for one- to four-unit properties by using the FHA’s lookup tool.

Qualifying for an FHA loan

Besides the low down payment, an undeniable benefit of the FHA mortgage is the low credit score requirement. You may qualify for a 3.5% down payment with a credit score of 580 or higher. You can qualify with a minimum credit score of 500, but you’ll have to make at least a 10% down payment.

Your debt-to-income (DTI) ratio is another key metric lenders use when determining whether you can afford a mortgage. DTI measures the percentage of your gross monthly income that is used to repay debt. Lenders consider two DTI ratios when determining your eligibility — the front-end (housing debt) ratio and the back-end (total debt) ratio.

Your front-end ratio is the percentage of your income it would take to cover your total monthly mortgage payment. Lenders typically like to see a front-end ratio of no more than 31%.

Your back-end ratio illustrates the percentage of your income that covers your total monthly debts. Lenders prefer a back-end ratio of 43% or less, but may approve a higher ratio if you have compensating factors, such as a higher credit score or a larger down payment.

You’ll also need to have a steady income and proof of employment for the last two years. Additionally, the home you’re purchasing via FHA must also be your primary residence, at least for the first year.

FHA mortgage insurance

At first glance, an FHA mortgage probably seems like the ultimate hack to buying a home with minimal savings. The flip side to this is you must pay mortgage insurance premiums (MIP) in exchange for your lower down payment.

Remember, FHA-approved lenders offer mortgages that require less money down and flexible qualifying criteria because the Federal Housing Administration will cover the loss if you default on the loan. The government doesn’t do this for free.

FHA mortgage borrowers must “put money in the pot” to cover the cost of this backing through upfront and annual mortgage insurance premiums. The upfront insurance premium costs 1.75% of the loan amount and can be rolled into your mortgage balance.

The annual mortgage insurance premium is divided into 12 installments and paid monthly as part of your mortgage payment. The annual premium ranges from 0.45% to 1.05%, based on your loan term, loan amount and loan-to-value ratio (LTV).

Your LTV is a metric that compares your loan amount to your home’s value. It also represents the equity you have in the property. For example, putting 3.5% down means your LTV would be 96.5%. In other words, you have 3.5% equity in the home, and your loan is covering the remaining 96.5% of the home value.

Here’s the annual MIP on a 30-year FHA mortgage (for loans less than or equal to $625,500):

  • LTV over 95% (you initially have less than 5% equity in the home) – 0.85%
  • LTV under 95% (you initially have more than 5% equity in the home) – 0.8%

As you can see, starting off with a smaller down payment will cost you more in mortgage insurance premiums. Additionally, in most cases, you’ll pay annual MIP for the life of your loan.

However, if your LTV was less than or equal to 90% at time of origination — meaning you made a down payment of at least 10% — you can cancel MIP after 11 years.

FHA loans vs. conventional loans

Government-backed home mortgages like the FHA loan are special programs serving borrowers who might not qualify for a traditional mortgage.

Conventional mortgages are offered by lenders and banks and typically follow Fannie Mae and Freddie Mac’s mortgage standards. Fannie and Freddie are government-sponsored enterprises that buy loans from mortgage lenders and banks that fit their requirements.

The qualifying criteria bar for conforming loans is usually set higher. For instance, you typically need to have at least a 620 credit score to qualify for a fixed-rate conventional loan. However, credit score minimums vary by lender, but in any case, a score above 620 will be necessary for the most competitive interest rates.

A misconception about conventional mortgages is that borrowers must have 20% for a down payment to qualify. Mortgage lenders may accept less than 20% down for a conventional mortgage if you have a high credit score and pay their version of mortgage insurance premiums, which is called private mortgage insurance (PMI).

Similar to FHA mortgage insurance, PMI is a private insurance policy that protects the lender if you default. Be careful not to confuse the two types of insurance policies.

If you have PMI on a conventional mortgage, you’re able to request the removal of those insurance payments when you build up 20% equity in your home. On the other hand, the mortgage insurance premiums for most new FHA mortgages can’t be removed unless you refinance.

When to choose a conventional mortgage instead

Choosing an FHA loan can be a shortcut to homeownership if you don’t have much cash saved or the credit history to get approved for a conventional mortgage. Still, the convenience comes at a price that can follow you for the entire loan term.

Furthermore, putting a small sum down on a home means it will take you quite some time to build up equity. A small down payment can also increase your monthly payments and interest rate.

Homebuyers with a strong credit score should consider saving a bit more money and shopping for a conventional home loan first before thinking an FHA mortgage is the only answer to a limited down payment.

If you plan to put down at least 5% toward your home purchase and have a good or excellent credit score, it might make sense to borrow a conventional mortgage instead. A conventional home loan with PMI may not require the same upfront insurance payment as the FHA home loan, so you can find some savings there. Plus, you’re capable of getting rid of PMI without refinancing.

There are a few conventional mortgage programs that allow a 3% down payment, including Fannie Mae’s HomeReady program and Freddie Mac’s Home Possible program. These products also have cancellable mortgage insurance.

Shopping for an FHA loan

So, you’ve reviewed all the information and determined that an FHA loan is right for you. Once you’re ready to start the homebuying process, one of the most important things on your to-do list is shopping around.

Gather quotes from multiple FHA-approved lenders to find the most competitive rate. If you’re unfamiliar with the approved lenders in your area, you can use the HUD’s lender list search to locate them.

Comparison shopping for the best mortgage rate can save you thousands in interest over the life of your loan, according to research from LendingTree, which owns MagnifyMoney. Be sure you also compare the various other costs associated with borrowing a mortgage, including lender fees and title-related expenses.

Don’t rush to a decision. If you’re still not sure which mortgage type will be the most cost-effective for you, ask each lender you shop with to break down the costs for a comparison.

This article contains links to LendingTree, our parent company.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Crissinda Ponder
Crissinda Ponder |

Crissinda Ponder is a writer at MagnifyMoney. You can email Crissinda here

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2019 FHA Loan Limits in Wyoming

Editorial Note: The editorial content on this page is not provided or commissioned by any financial institution. Any opinions, analyses, reviews, statements or recommendations expressed in this article are those of the author’s alone, and may not have been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

If you’re looking to buy a house in Wyoming, you probably already know the state boasts the nation’s smallest population and the lowest population density. Its rural nature makes Wyoming the perfect place for homeowners who want to enjoy the natural wonders of the West without living right on top of their neighbors.Wyoming is also a state where homeownership is a reality for a large portion of the population: The U.S. Census Bureau estimates that more than 69% of the homes in the state are occupied by their owners.

So how do you make your Wyoming homeownership dreams come true? One popular option is a loan backed by the Federal Housing Administration (FHA). Last year, 0.23% of the nation’s FHA loans originated in Wyoming, where buyers took advantage of the federal backing to access benefits like lower interest rates and smaller down payments.

But keep in mind that FHA loans are subject to limits on the amount you can borrow. Those limits change every year to keep up with housing prices across the country. This year, FHA loan limits have climbed in Wyoming, allowing potential buyers who qualify for an FHA loan to borrow up to $314,827 for a single-family home.

Wyoming FHA Loan Limits by County

County NameOne-FamilyTwo-FamilyThree-FamilyFour-FamilyMedian Sale Price
ALBANY$314,827 $403,125 $487,250 $605,525 $239,000
BIG HORN$314,827 $403,125 $487,250 $605,525 $139,000
CAMPBELL$314,827 $403,125 $487,250 $605,525 $228,000
CARBON$314,827 $403,125 $487,250 $605,525 $174,000
CONVERSE$314,827 $403,125 $487,250 $605,525 $207,000
CROOK$314,827 $403,125 $487,250 $605,525 $199,000
FREMONT$314,827 $403,125 $487,250 $605,525 $77,000
GOSHEN$314,827 $403,125 $487,250 $605,525 $159,000
HOT SPRINGS$314,827 $403,125 $487,250 $605,525 $157,000
JOHNSON$314,827 $403,125 $487,250 $605,525 $225,000
LARAMIE$314,827 $403,125 $487,250 $605,525 $243,000
LINCOLN$314,827 $403,125 $487,250 $605,525 $253,000
NATRONA$314,827 $403,125 $487,250 $605,525 $215,000
NIOBRARA$314,827 $403,125 $487,250 $605,525 $165,000
PARK$314,827 $403,125 $487,250 $605,525 $241,000
PLATTE$314,827 $403,125 $487,250 $605,525 $175,000
SHERIDAN$314,827 $403,125 $487,250 $605,525 $253,000
SUBLETTE$314,827 $403,125 $487,250 $605,525 $235,000
SWEETWATER$316,250 $404,850 $489,350 $608,150 $259,000
TETON$726,525 $930,300 $1,124,475 $1,397,400 $789,000
UINTA$314,827 $403,125 $487,250 $605,525 $206,000
WASHAKIE$314,827 $403,125 $487,250 $605,525 $173,000
WESTON$314,827 $403,125 $487,250 $605,525 $184,000

How are FHA loan limits calculated?

FHA loans are backed by the federal government, and it sets the loan limits.

The government sets a floor limit, which is the maximum amount that buyers are allowed to borrow in areas deemed “low cost.” It also sets a ceiling limit, the maximum amount an eligible buyer can access in an area that’s considered “high-cost.”

The FHA bases its figures on the conforming loan limit — the biggest loan that Fannie Mae and Freddie Mac will buy — with the floor set at 65% of the conforming loan limit, and the ceiling at 150%.

All 23 counties in Wyoming are considered low-cost, and therefore have the loan limit of $314,827.

These are the limits that the FHA has set for low-cost areas across the United States this year:

  • One-unit: $314,827
  • Two-unit: $403,125
  • Three-unit: $487,250
  • Four-unit: $605,525

These are the limits set for high-cost areas across the USA in 2019:

  • One-unit: $726,525
  • Two-unit: $930,300
  • Three-unit: $1,124,475
  • Four-unit: $1,397,400

Are you eligible for an FHA loan in Wyoming?

Of course, just buying a house in Wyoming won’t guarantee you a $314,827 mortgage, nor does it grant you access to an FHA loan. There are requirements to meet regarding your credit score, debt-to-income ratio and other factors. You can find out more in MagnifyMoney’s complete guide to FHA loans.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Jeanne Sager
Jeanne Sager |

Jeanne Sager is a writer at MagnifyMoney. You can email Jeanne here

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