More than a third of Americans have finished paying off their mortgage. When it comes to securing a loan, these Americans are a cut above the rest. That's because they, as well as those with significant equity in their home, can acquire real estate collateral loans.
You've likely heard of the term "collateral" before, but you're not entirely sure what it means. After all, loans are complicated enough even when you're not putting something on the line. Yet it's essential for homeowners to understand the complexities of real estate collateral loans in case they ever need a hefty sum in the near future.
Need some help making sense of collateral loans? Discover everything you need to know about using real estate as collateral in this beginner's guide.
1. What Are Real Estate Collateral Loans?
Before lenders are willing to offer a borrower a large sum of money, they want some form of assurance that they'll get their money back. That's why most loans are secured loans, otherwise known as collateral loans. Collateral can be just about anything of value, whether it be a home, car, or receivables.
Naturally, the home serves as a piece of collateral in real estate collateral loans. Should the borrower fail to uphold their end of the bargain, the lender may ask for the money back. They'll have the legal right to sell the collateral in the case of a borrower defaulting.
2. The Benefits of Real Estate Collateral Loans
If you have poor credit, collateral loans are one of the best ways to land a loan with a decent rate. Otherwise, lenders may be cautious of giving you a windfall. After all, they have no guarantee they'll be compensated in case something goes awry.
For that reason, they'll have to charge you more in interest to make up for other borrowers who default. Even those with excellent credit can benefit from including collateral, though it may not be necessary for these borrowers.
Lenders are also more accepting of a loan secured by real estate. It's lower risk, so there's much less to worry about.
3. The Disadvantages of Real Estate Collateral Loans
Borrowers are at greater risk than the lenders when it comes to collateral loans. If it's a small item, things could be worse.
But we're talking about real estate. Losing a property would be a major inconvenience for just about anyone.
The good news is the bank doesn't get to keep everything. They'll sell the house as-is and offer the borrower the remaining proceeds after they've covered the debt. Of course, foreclosed homes tend to be in bad condition and are sold well below their actual market price.
The worst part about collateral loans? You must possess something valuable. If you want a real estate collateral loan, you already need to have a decent chunk of equity in your current property.
4. Different Types of Real Estate Collateral Loans
A single piece of collateral can be used in a variety of different loans. And if you own real estate, you likely have already taken advantage of the most common type of real estate collateral loan: the mortgage loan.
Surprised? When you borrow money to buy a home, the home itself becomes collateral for the loan. Without these types of loans, owning a home would be out of reach for most people.
A HELOC, or a home equity line of credit, is another common type of borrowing with real estate collateral. This is a line of credit, used like a credit card, that's based on the valuation of your home. Many homeowners use home equity loans to pay for large expenses, such as a sizable kitchen or bathroom renovation.
There's a final form of home collateral to consider. It's known as a hard money loan. Hard money loans rely on individual lenders rather than large banking institutions.
Almost anyone is approved for hard money loans, so long as you have a decent form of collateral. They're also much more formal since the lenders lack the standardization of massive banks. This means it's easier to get a flexible deal that works for you.
5. Locating Real Estate Collateral Loans
If you're looking for a new loan, you'll want to get the best interest rate around. And that means it's time to compare and contrast different deals from different lenders.
Massive banks are the most common source of these loans. They're oftentimes more convenient and reliable than smaller community banks, though these can be worth the effort. Smaller lenders generally have to offer better terms to stay competitive.
Lastly, you can consider credit unions if you're a member, or take advantage of online lenders.
6. Loans Without Collateral
If you don't have enough equity in your home to serve as collateral, or you have a bad credit score, you may want to turn to some alternatives in the meantime.
Credit-builder loans are available from most credit unions and can help you get back on your feet. But if you don't want to work through a large institution, consider becoming an approved user of a family member's credit card.
Don't have time to wait? Search for unsecured loans from any of the lenders we mentioned in the previous section. A family member can sign for a loan in your name, reducing the risk in case of a default.
Don't Fear Collateral Loans
It may seem counterintuitive, but borrowing money is an essential way to manage your financial health. The trick is to ensure you pay every loan on time and avoid offers with bad terms. With the help of real estate collateral loans, you can get the money you need now without having to wait for later.
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