If you own a house of your own, and need additional cash, then there are two options to choose – a personal loan or a home equity loan. Both these loans are multi-purpose in nature. You can use the funds to deal with an unexpected emergency, or pay for educational expense, home repair or improvement, among any other task. But these financial products each, carry different risks and benefits. So, when you have to choose between both, you need to understand each aspect of the loan deal, and weigh the pros and cons, before picking the suitable offer.
Home Equity Loan vs. Personal Loan
The primary difference between these loans is that home loan equity requires collateral. Basically it is the house or property that you own. A personal loan on the other hand is collateral-free and unsecured borrowing in nature. A home equity loan is based on the amount of equity you have on your house. It is the difference between the amount you owe to the financial institution, and the property value.
Below-provided table lists a few eminent differences between how these loans are structured and their costs.
|Differences||Personal Loan||Home Equity Loan|
|Security Requirement||No Collateral||Need Collateral|
|Interest Rates||As low as 10.99%||0.5% to 1% higher than existing home loan rate, which can be as low as 8.35%|
|Fees and Charges||Fees are charges involve those for processing the loan, part-payment or prepayment, foreclosure, etc.||Fees and charges involve those for processing the loan, appraisal fee, notary fee, title report free, etc.|
|Loan Amount||Quantum of finance starts from Rs. 1 lakh and is up to Rs. 1 crore. The amount sanctioned depends majorly on your monthly income, credit history, and repayment capacity.||Quantum of finance starts from Rs. 1 lakh up to 70% to 80% of the equity in your home, or the total loan to value.|
|End Purpose Restriction||None||None, but yes, if you want tax benefit on home loan|
|Tax Benefits||None||Yes, both on interest and principal repaid, based on certain sections of the Income Tax Act.|
Working of a Personal Loan
Below-given is an explanation of how a personal loan work:
- Purpose of the Loan and Eligibility Criteria: The bank/NBFC will credit the loan amount in lump sum to your bank account. Most common uses of the funds are taking care of medical and travel expenses, debt consolidation, home renovation, etc. But, you can use the funds anywhere you wish, no questions asked. Financial institutions offer this loan usually to salaried people, but in some cases, there are schemes available for self-employed and professionals as well such as consultants, lawyers, doctors, Chartered Accountants, etc.
To be eligible for the loan, you need to be a salaried individual, or self–employed or a professional, of at least 23 years or 25 years of age. You must have a good repayment record, a stable job, and a regular monthly income. Documents required may include proof of identity and resides, besides bank statements, income proof, etc.
- Interest Rate and Tenure: The rate of interest applicable depends heavily on your credit score and history. If you have a CIBIL score 750+ you can get the best rates in the market. But if you have a poor credit score and a history riddled with repayment defaults and delays, then a high rate of interest shall apply. The rate starts from 10.99% but can go up to 26%. Tenure of the loan is between 1 year and 5 years and in a few cases the tenure can be up to 2 to 3 years only.
- Processing and Disbursal Time: A personal loans application can get processed within 24-48 hours if you submit all the required documents, and meet up to the eligibility criteria. The disbursal takes just a few hours after the loan is approved, so you can expect the funds in as less as 48 hours to 72 hours.
Working of a Home Equity Loan
Below-given is an explanation of how home loan equity works:
- Purpose of the Loan and Eligibility Criteria: The amount is usually taken to make home-related repairs and renovations. So, any amount spent to pay the interest and the principal repaid itself can be claimed for tax deduction dedicated for a home loan. Besides the usage of funds to construct or modify a house, it can be used for any emergency or planned expense as well.
The amount sanctioned is decided by calculating the current market value of the property and subtraction liens (if any) against the property. To qualify for this loan, you must own a home and have equity in it. The bank will check your repayment history, as like it does even during processing a personal loan.
You will have to furnish your identity and address proof, income proof, property registration papers, other proof of owning the home if any, mortgage statements, tax assessments, list of debts, an evaluation form of the property’s current market value, etc. You can typically expect up to 70% to 80% of the equity.
- Interest Rate and Tenure: Home loan equity comes at a lower interest rate than a personal loan rate, because it is a secured form of borrowing, thus the lending institution considers you as a little less riskier as a borrower with the property as collateral. Like discussed, the rate will be higher by up to 1% than the rates applicable on the original home loan. Thus, the lower the rate of the housing loan, lower will be the rate of the home equity loan.
Tenure of such a loan is usually up to 15 years, calculated on the number of years remaining on the existing housing loan. For instance, if the tenure of the housing loan is 12 years, out of which 5 years have gone by, then you may be eligible for up to 7 years on a home equity loan.
- Processing and Disbursal Time: It takes longer to process the loan application and disburse funds, because it involves a few legal procedures. For instance, judging the property value as per the current market, verification of documents, and other processes. After which, a loan amount will be finalized and the funds disbursed in a short time. So, it can take a week or more to disburse the funds.
Which to Pick – A Home Equity Loan or a Personal Loan?
As understood by the above explanation on personal loans and home equity loans, both have their own benefits and differences. If you need large funding, which you cannot get through a personal loan, then you can choose a home equity loan. On the other hand, if you need sufficient funds quickly, then you can go for a personal loan.
You can compare the fees and interest rates on both these loan offers, so as to compare and select the right one. If you want to negotiate rates, then collateral home loan will work better for you than a personal loan. Thus, compare all the pointers and facts about the loan deals, before selecting the one that fits your requirements.