Home Equity Loan or Home Improvement Loan: Which is Better?

Ready to design that dream kitchen? Or thinking about adding a porch, pool, or patio? Or perhaps you’d like a way to pay for a much-needed family vacation. Whatever goals you have in mind, Arkansas Federal Credit Union can help with a home equity loan or home improvement loan, but what’s the difference, and which one is for you?

What is a home equity loan?

A home equity loan, sometimes called a second mortgage, uses the money you’ve already paid toward your house (your home equity) as a guarantee that you’ll repay the loan. In other words, home equity is the value of your home minus what you still owe on your mortgage.

So, if your home is worth $200,000, and you owe $150,000 on your mortgage, you have $50,000 in equity.  Most financial institutions will lend a percentage of the equity amount. At Arkansas Federal, we will lend up to 95% of the equity, which means you could get a home equity loan of up to $40,000 in this scenario. 

This type of loan offers a fixed interest rate and repayment term. The rate you receive will depend on the market rates at the time, loan amount, and your personal financial history, such as your credit score and payment history.

Advantages of a home equity loan

• Fixed payments. If you take out a home equity loan, your rate will be fixed, and your payments will be predictable over time. From the start of your loan, you know exactly what your rate and payment will be for the entire duration of the loan.
• Lower Rate. A home equity loan usually comes with a lower interest rate than other forms of financing, such as a credit card or even a home improvement loan. Since your home serves as collateral, these loans are seen as less risky for lenders, so the rate is generally lower.
• Lump Sum Payment to You. You will receive the money you are borrowing in a single lump-sum payment to you.  
• Larger Borrowing Capacity. Another huge advantage of a home equity loan is the large amount of funds you could have access to. It all depends on the amount of equity you have built up in your home, and with home values soaring recently, you could be sitting on a lot of equity.
• Flexibility. You can use the funds for just about anything—vacation, home repairs, debt consolidation, a wedding, you name it! It’s yours to use as you see fit.

Disadvantage of a home equity loan

The only real disadvantage of a home equity loan is that in the event you don’t pay back your loan, you could lose your home since it is used as collateral.

What is a home improvement loan?

A home improvement loan, on the other hand, is a type of personal loan you can use to get funds for home repairs and projects. It’s an unsecured loan, which means you don’t need to back up your loan with collateral.

And like a home equity loan, it comes with a fixed interest rate and repayment term. The rate you receive will depend on the market rates at the time, loan amount, and your personal financial history, such as your credit score and payment history.

If you decide to go with a home improvement loan, be aware the funds typically are not released to you, like with a home equity loan. Instead, check(s) will be made out to the contractor(s) you’ve agreed to use for your specific home project(s). This means you’ll need to find a contractor, get an estimate, and agree to use that specific contractor for your project(s). Otherwise, you could have a loan and funds that you can’t even access and that you’re stuck paying back. So, first things first—get that contractor scheduled for your estimate, then apply for a home improvement loan.

Advantages of a home improvement loan

• No Collateral. This is probably the biggest advantage to a home improvement loan. You can get the funds you need without having to use any type of collateral.
• Fixed payments. Just like a home equity loan, your rate will be fixed, and your payments will be predictable over time. From the start of your loan, you know exactly what your rate and payment will be for the entire duration of the loan.
• Low Rate. A home improvement loan usually comes with a lower interest rate than other forms of financing, such as credit cards. But since you’re not backing the loan with any collateral, the rate tends to be a bit higher than a home equity loan.
• Funds up to $50K. With a home improvement loan, you can obtain financing for sums between $5,000 and $50,000. It all depends on the home project cost.  

Disadvantage of a home improvement loan

Unlike a home equity loan, the funds must be used for home projects. You can’t use the funds for anything you’d like. And the funds are not released to you. Instead, check(s) will be sent directly to your contractor(s). Also, because you don’t provide any type of collateral with a home improvement loan, the rate will typically be a bit higher than a home equity loan rate, but then again, it should be lower than the average credit card rate, so it really depends on what your goals are.

Bottom Line

Both a home equity loan and home improvement loan function similarly once approved—you’ll get a loan amount, make monthly payments, interest will accrue, and the rate/payment you’re given will stay the same since they’re both fixed-rate loans.

	Home Equity Loan	Home Improvement Loan
Fixed Interest Rate
Lump Sum
Funds Paid to You
Funds Paid to Contractor
Used for Any Purpose
Used for Home Projects Only
Secured with collateral (your home)

Ready to get started?

Regardless of which loan you go with, you can apply online for a home equity loan or home improvement loan in minutes. There’s no cost to apply, and the application process is easy.

Want another option?

Our fixed-rate home equity loan and home improvement loan are both great options if you want the stability of a monthly payment that will not change over the life of your loan. But we also offer variable Home Equity Lines of Credit (HELOCs) with more of a revolving credit line, similar to a credit card. If you’d like more information about a HELOC, please call us at 800.456.3000, and we’ll be glad to go over your options.