An equity loan is a loan based on the equity in the property — or the difference between your loan and the value of your share in the case of a co-op. It's typically made after the original purchase loan was made, although that's certainly not a requirement. Your unit will have its equity comprised of what you originally put down plus appreciation (or minus depreciation).
A lender will then issue a loan based on that equity. The borrower can choose a home equity line of credit or one lump sum.
A lump sum payment is called an equity loan while a line of credit is called a home equity line of credit, or HELOC. Rates are typically based on the prime rate as its index and either adding or subtracting a margin, depending on the quality of the borrower and the amount of equity in the property when compared to the new equity loan.
Equity loans are calculated by using the combined loan to value, or CLTV. If the value of a property is $250,000 and the first mortgage has a $150,000 balance, the loan to value, or LTV, is 60 LTV. If there is a $50,000 equity line, the CLTV would be $150,000 plus the $50,000 equity line, or $200,000. That would represent an 80 percent CLTV.
100 percent CLTV equity loans will typically carry higher rates. Some lenders do not make 100 percent CLTV loans on condos, co-ops, or townhouses, but they will reduce the CLTV cap at 95 percent. That means a lender will require at least 5 percent equity in the property when issuing a home equity loan.
NO MONEY DOWN
Again, easy enough to understand. But a zero-money-down loan can come in the form of one big loan at 100 percent of the sale price; or it could be made up of two loans, such as an 80/20 loan where the first is at 80 percent LTV and the second, subordinated loan is at 20 percent LTV.
These loans are much harder to find today than in the past. The typical no-money-down loan is of the 80/20 variety. And a single loan is 100 percent of the value of the property; 100 percent loans will require mortgage insurance because the loan itself is greater than 80 percent of the sales price. Some mortgage insurance companies don't insure such loans, so the only choice would be a lender that has an arrangement with a mortgage insurance company to provide a lender paid mortgage insurance, or LPMI.
100 percent financing with LPMI is hardly an attractive rate as the mortgage insurance policy is actually paid for with a much higher rate. Unless you absolutely have to buy that perfect condo but at a time when you have very little cash to close, then a 100 percent loan might work for you. Sometimes in these situations it's best to wait and save some money for a down payment; otherwise your payments will be higher when compared to a loan with a down payment.
No-money-down loans can cause problems when you have to sell the property. If you're planning to hold onto the unit for a long time, 100 percent financing may be okay. But if you're not sure how long you're going to keep the unit — or if you're forced to sell due to a job transfer or the loss of a job — you may not have enough equity in the property to cover the closing costs associated with selling.
This means that if you're forced to sell earlier than you planned, when you go to the closing table you will have to bring money. Zero equity in property, or even property that is “upside down” (the value of the property is less than what is owed on it), can cause real estate to go into foreclosure if the seller can't make the payments or bring enough funds to a closing.