When it comes to comparing the home equity loan versus mortgage loans, the difference simply comes in the form of the loan and how it is structured. A mortgage loan is a more formal and structured loan in its setup and payback method.
A mortgage loan is usually for a set period of time, such as 15 to 30 years, and it has a definite payment schedule that incorporates the paying back of the principal along with the interest in a structured payment plan called amortization.
The Amortization Process
The amortization process allocates mostly interest in the first part of the payment process, and each month a little less interest and a little more principal is paid. This happens until the last payment is mostly all principal and very little interest.
It is simply a methodical method of scientifically being certain that all of the financial ramifications of the principal and interest portions of the mortgage are taken care of. An amortized mortgage payment method will also have pre-payment penalties to ensure that a mortgage is not paid off too early, which would deprive the lender of interest earnings.
Home Equity Loans
On the other hand a home equity loan is a system whereby a borrower is able to set up a system whereby money will be available at the whim of the borrower under certain conditions. This type of loan arrangement is usually available in addition to a formal mortgage amortization situation.
In this particular situation, there is a “Draw Period” such as from the 5th to the 25th year in and a 30 year mortgage period, where the borrower can elect to have a certain maximum amount of cash. Usually this feature is to be used for big ticket items such as education funds, medical bills, home improvements and business or investment opportunities.
There is no interest charged on the loan until it is actually taken, and there must be enough equity in the home to support the loan. Once home equity loans are active, the interest is charged, and a payment schedule can be set up. Some loans of this type are established with an informal payment arrangement, and some with payments of interest only are arranged.
In other instances a more formal payback arrangement is setup, much like the original amortized mortgage situation. These methods are also termed as “second mortgages.”
The Case of Home Equity Loans vs Mortgage Loans
So the case of a home equity loan versus mortgage loans depends entirely upon how the loan is structured and how it is to be used. A lot will depend on the credit rating of the borrower as to which method is used, and how much of a loan burden can be used.
In many cases a home equity loan of some type is arranged after the regular home mortgage has been in force for a while, as the lender can see the history and the dedication that the borrower brings to the table in the overall scheme of things.
The strategy is to utilize each mortgage setup for different needs, and they can come to play to solve different situations. Keep this in mind when you’re trying to decide between the 2.