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WHAT IS HOME EQUITY LOAN?

what is home equity loan

Home Equity Loan is also known as cash-out refinancing.  It is a type of second mortgage where you can capitalise on the equity in your existing home.  Your home equity is the current value of your home minus your outstanding loan and CPF usage.  In simple words, home equity loan allows you to borrow money from bank by using your house as the collateral. 

Home equity loan is a good option for homeowners who are facing liquidity problems, especially when it involves a large sum of financial aids.  It is possible to get this loan even though your property has not been fully paid yet, as lenders will commonly give approval if there is at least 15% to 20% equity in your property.

Here is the simplest way to understand what equity means:

Assuming you bought a house for $1,000,000.  You paid $250,000 as 25% deposit by cash and settle the balance by home loan.  In this illustration the 25% you paid is your home equity, it increases as you continue paying the 75% loan balance.

When selling or downgrading is not an option, you might want to use the capital gains of your home to help you.

What is The Difference Between Home Equity Loan and Home Loan?

The funds from home equity loans can be used for many purposes as it is given in the form of cash to the borrowers, while the funds from home loans can only be used to pay home sellers or developers.

In What Circumstances You Need Home Equity Loan?

  • When you need a large sum of money for investments

If you want to start a business or invest elsewhere but lack of capital, you can consider taking this loan.  Investment usually involves a lot of money and sometimes your saving is insufficient to venture into one.  Getting a home equity loan will help you to have initial capital outlay and let you keep your home at the same time.

  • When you want to consolidate your debts

When you have too many loans and they become too expensive due to high-interest charges, it is now time to fix your debt problem.  Consolidate all your unsecured loans into a single home equity loan to spread out your debt over a longer period of time at low interest rate.  In this way your monthly repayments will be reduced to manageable level.

  • When you want to help your children

This loan is also a good option for parents who want to send their children to study overseas.  Why?  With interest rate as low as approximately 1% – 1.3% per annum, a home equity loan is cheaper than an education loan or even a HDB loan which charges interest of 2.6% per annum.

Below is a table where you can compare the interest rates of various loan types:

LOAN TYPE

INTEREST RATE

Home Equity Loan

1% – 1.3%

HDB Loan

2.6%

Renovation Loan

2.98% – 5.8%

Business Term Loan

3.5% – 6%

Debt Consolidation Loan

4% – 6%

Education Loan

4.5% – 5.88%

rates
  • When you are an owner of second or subsequent investment properties

Let’s say you own 2 properties, home A and home B.  Home A worth $1,500,000 and is fully paid.  Home B is rented out and still on mortgage for another 10 years, with loan payable of $400,000.  At the interest rate of 2% per annum, your mortgage repayment is about $3,680 per month while your rental income is $3,700 per month.

If rental market just drops slightly you would need to fork out from your own pocket to match the mortgage expense, and yes, you would start feeling like having a liability.

Since your home A is fully paid, you could consider applying a home equity loan on home A and use the cash to pay off home B.

By borrowing $400,000 at 1% per annum, your monthly repayment will be just about $3,500.  By doing this, not only you could save approximately $200 per month ($3,700 – $3,500), but at the same time you would have an additional buffer to fall back on in case your rental income reduced.

Who is Eligible?

  • Owners of Private Residential Properties
  • For Executive Condominium owners, you must first clear the 5-year Minimum Occupation Period to unlock its equity.
  • Owners of Commercial Properties
  • Owners of Industrial Properties
  • Owners of International Overseas Properties (limited to UK and Australia)

Why HDB flat is not eligible?  Below is the answer:

what is home equity loan

Is Home Equity Loan Better Than Personal Loan?

Besides having their own pros and cons, these loans also offer specific benefits to cater specific needs.

In addition to that, home equity loan could only be your option if there is enough equity in your property.  Otherwise, personal loan is probably the way to go if you do not own any property or there is not enough equity in your property.

HOME EQUITY LOAN

PROS

CONS

Higher loan amount granted

Most banks in Singapore will typically lend borrowers up to 80% of their property value.

High upfront costs

Home equity loan is tied to the value of property, therefore it is compulsory to do a valuation on your home.

Besides valuation cost, there are also administrative and legal costs.  The total cost of getting this loan usually ranges from $2,000 – $3,000, and it will be charged every time you apply.

Hence, you want to be sure that the amount you want to borrow is sufficient for your need.

Interest rate is lower

The interest rate on this loan is only around 1% to 1.3% per annum, which is very low compared to other types of loan.

The reason is because home equity loan is regarded as low risk loan as your property is pledged as collateral.

Takes longer time for approval

It usually takes about 2 months to get approval, however if you still have an existing loan with the bank, it could take up to 4 months to be approved.

As such, home equity loan is not suitable for emergencies.

Lesser credit score requirement

 

Your home equity loan application will most likely be approved as banks are given the opportunity to initiate foreclosure if you default on your loan repayments.

However, your credit score will affect the interest rate, the lower your score, the higher the interest rate you’ll be paying.

Long loan tenures

Due to the low interest rate, home equity loan has a longer tenure to serve. 

Borrowers must always be financially prudent throughout the life of the loan as unforeseen changes might happen along the way.

 

You might lose the roof over your head

As mentioned before, in the event you fail to repay your loan, the banks will have the right to seize your home and put it in an auction to recover their losses.

 

PERSONAL LOAN

PROS

CONS

Fast approval

Some cases are instantly approved.

Lower loan amount granted

You can only loan up to 4 times your monthly income, which may not be enough to solve bigger needs.

Shorter loan term

Generally it ranges from one to seven years.

Interest rate is higher

Typically ranges from 3% to 6%.

No collateral required

Most personal loan in Singapore is unsecured.

More credit score requirement

As a non-collateral loan, personal loan is considered to be unsecured.  Hence, banks will be stricter on borrower’s credit score criteria.

How Much Can You Loan and What Are The Terms & Conditions?

  • Generally bank will lend you up to 80% of your property value, less any outstanding loan amounts and CPF used for the property purchase.

Here is an illustration:

Mr. Lim’s property is valued at $1,000,000.  His outstanding home loan is $200,000, and when he bought this property, he also had drawn about $300,000 from his CPF account.  Mr. Lim is eligible to borrow up to $300,000 based on the calculation below:

80% of Mr. Lim’s property valuation

80% x $1,000,000 = $800,000

Mr. Lim’s outstanding home loan

$200,000

Mr. Lim’s CPF usage

$300,000

Maximum loan amount

$800,000 – $200,000 – $300,000

= $300,000

what is home equity loan
  • TDSR applies, meaning the loan repayments should not exceed 60% of your monthly income. However in 2017 Singapore government made regulatory changes, whereby you can borrow up to half of your home value without having to meet the TDSR restrictions if your house is fully paid.  This move is set mainly to help retirees and others who want to cash out using their home equity.

Referring to the illustration above, Mr. Lim will not be affected by TDSR because his total loan is less than 50% of the property value.

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what is home equity loan
  • The maximum loan tenure of home equity loan is:

75 years minus your current age, and if you are still paying the home loan you’ll have to also minus the number of years spent on servicing the existing home loan.

For example, you are 48 years old and you have been servicing your home loan for 10 years.  Your maximum loan tenure is:

75 – 48 – 10 = 17 years

what is home equity loan
  • Unlike a home loan, you cannot use your CPF fund to pay off a home equity loan. You must repay this loan using your own cash, therefore do make sure you have enough resources as it is going to be a long term financial commitment.
  • If you still have an outstanding home loan, you must apply your home equity loan from the same bank.

How It Works?

When your Home Equity Loan is approved, the bank (lender) would either give you (borrower) a cheque or disbursed the funds into an account specifically opened by the lender for the borrower.

Sometimes this account can be an interest-bearing account to encourage borrowers to keep the funds instead of using it.

Borrowers would pay their loan just like paying any other typical home loan, following the amortization schedule as prepared by lenders.  The interest rates charged are typically the same types as regular housing loans offered by lenders, depending on whether it is on a ‘Fixed Rate’ or a ‘Floating Rate’ pegged to an index rate.

Conclusion

Like any other loans, home equity loan also comes with risks.  You would not want to spend your capital gains unnecessarily just because you can cash it out.  You need to fully understand and think how you will be using the loan.  Though it is ‘cheap’ and quite ‘easy’ to get, it is better to explore other possible solutions before engaging yourself into a second mortgage. 

If this loan is the only way to go, do a lot of research and be sure that its purpose worth the risk.

At the end of the day home equity loan or cash-out refinancing is still a loan, and taking out a loan is the last thing we want to do.  Hence, you should borrow the right way and do it for the reason that bring you benefit in the long run.  Depending on how you will utilize the cash flow, this loan can either be a smart or a chaotic option.

Thinking of ‘Property Wealth Planning’ or Considering to ‘Upgrade’ Your Property?

As you can see now, HDB flat does not let you capitalise on its ‘equity’.  If you are a HDB owner and looking forward to have a reliable source of fund from your home in the future, it is time for you to consider investing in private properties.

Besides condominium and executive condominium, there are other options of private property investments which can bring the advantage of getting home equity loan as well.

If you are interested in upgrading your HDB flat or investing in a second property, do give me a call for a non-obligatory discussion.  I am here to help you exploring your best potentials and options, be it for your own stay or investment.

ABOUT ME

Lina Halim is on a mission to assist you in reaching your real estate goals.

As a Senior Associate Director with OrangeTee & Tie Pte Ltd, she takes the time to listen and understand your unique needs, only to plan and tailor a custom strategy that will help you acquire the specific property assets.

Never a fan of high pressure tactics, Lina centres her business on being committed, sincere and genuine with her clients.

She uses her real estate experience and property market knowledge to scope out only the most fitting opportunities for her clients.

Be it a need to get the right buyer or seller, she always put the client’s interest and ultimate goals as her priority.

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