Overview: With interest rates still extremely low, there is a lot of talk about home equity loans. But what exactly are they, and how do you know if one is right for you?

When big-ticket expenses crop up, especially in times of low interest rates, the idea of a home equity loan usually crops up with them. Many people still do not understand exactly what these loans are and do not know how to find out what kind of loan is right for them. A recent MSN.com article discusses the good and the bad aspects of home equity loans.

What Are They?

In essence, a home equity loan is a loan against which your house is secured. There are typically two types of home equity loan to choose from: a term loan and a line of credit loan.

A term loan, or closed-end loan, is similar to the first mortgage you took out on your home. The lender gives you all the money in a one-time lump some, which is then paid off over a fixed period at a fixed rate, with your payments being fixed each month.

A line of credit loan works in a similar fashion to a credit card loan. Once it is decided how much you can borrow, you can then tap into that amount when needed. You therefore only pay for the money you actually borrow. If your line of credit is $50,000 and you borrow $30,000 and then repay $20,000, this means that you still have a line of credit of $40,000. The only stipulation is that you must pay back all the money owed when the stated time period is up. The other difference is that a line of credit loan will typically have a variable interest rate, so just because the rates are good now, does not mean they will stay that way.

Why Are They Attractive?

Typically, home equity loans will have the lowest interest rates of any loans you can take out. They are normally considerably lower than credit card interest rates. Also, the amount available to you in a home equity is typically calculated as being 80 percent of the appraised value of your home, minus the balance of your mortgage. Therefore, the amount available in a home equity loan has the potential of being much greater than other types of loans. Finally, and potentially most importantly, you are able to deduct up to $100,000 worth of interest payments on your federal tax return.

Should You Get A Home Equity Loan?

In general, the answer depends on whether or not you are 100 percent confident on being able to make the payments. If you cannot make your payments, you risk the bank foreclosing on your biggest asset - your house. If you are sufficiently confident, and the money will be spent sensibly, then consider one final test: the total of all your debt repayments should not be more than 36 percent of your gross monthly income. If getting a home equity loans shoots you past this figure, consider whether or not you truly need the loan.

So you have decided a home equity loan is the smart move - which type should you go for? The rule of thumb is that if you are borrowing to fund a one-time project or purchase in which you know the entire amount up front, then it is best to go for a term loan. This is especially true if having stable fixed monthly payments are important to you. However, if you are going to have an ongoing project, or are going to be making ongoing payments, then a line of credit loan is typically best.

Home equity loans are no different from other major decisions. Get the facts, and check around before making your decision. And remember, what is right for one person, will not necessarily be right for someone else.