How Do Home Equity Loans Work?

A home equity loan allows homeowners to receive a single payout with a fixed interest rate and monthly payments on the existing equity of their home, states Bank of America. If the loan isn't repaid based on its terms, the lender can foreclose on it, states the Federal Trade Commission.

The equity of a home is the difference of the home's actual value and how much the homeowner still owes on the mortgage, states Bankrate. A home equity loan acts like a second mortgage, and most people get them to pay for major expenses, such as home improvements, education or debt consolidation.

The Federal Trade Commission recommends that consumers negotiate with different lenders to find the best deals on home equity loans by making banks compete against each other. It also suggests that consumers ask questions about all terms and conditions so that they don't get trapped in a deal they don't want. If the homeowner signs the closing papers but has second thoughts, he has a three-day period to cancel the loan without any penalties.

Another form of home equity is a home equity line of credit. This is a normal line of credit, like a credit card, and not a lump sum, states Nationwide. The interest rates and monthly payments on this type of credit are not fixed.