Your Money: Home equity loans make a comeback

• Rising home values are resulting in a rebound in home equity
• But borrowers should be prepared for more scrutiny
• The process can seem like getting a first mortgage

The comeback in home values isn't simply a feel-good number that can make people feel a little wealthier. The gradual rebound in home equity is opening the door once again to a way to borrow money for college, pay off credit card debt, and yes, even remodel a kitchen.

But if you're looking to borrow against the house, be prepared for a few more chores to qualify for that loan after the great financial meltdown.

As home prices stabilize or climb, lenders are more willing to lend and borrowers feel more secure about tapping into their equity, too.

"2013 has seen a real turnaround in home equity lending," said Greg McBride, senior analyst for Bankrate.com.

"The recovering housing market has led to a renewed appetite."

Discover Financial Services, for example, just launched a move into the home equity installment loan game. Fixed rates range from 5.99% to 11.99%.

Gary Harman, vice president of lending and home equity loans for Discover, said the loans make sense now that people have more equity in their homes. But he warned that some consumers, unfortunately, tend to believe that the house is worth more than it is.

Harman noted that Discover has a calculator at its website to help consumers get a ballpark number of how much they could borrow. See www.discover.com/home-equity-loans.

The trick, of course, continues to be to have enough equity in the house.

Take a home valued at $100,000 with a mortgage of $70,000. The homeowner would have $30,000 in equity, but forget about trying to borrow $25,000 or $30,000. In many cases, the homeowner would only be able to borrow $10,000 in this example through a home equity loan, McBride said.

Many lenders want the homeowner to retain 20% equity in the house even after taking out a home equity loan or line of credit.

"The lender is not lending every last nickel of property value," McBride said. Unlike the go-go lending years, it's going to be hard to borrow more than 80% of the value of your home, including the first mortgage.

While lending for home equity products has picked up, some homeowners can still find conditions pretty tight, said Keith Gumbinger, vice president for HSH.com, a mortgage-information website.

Expect some sort of appraisal on the home. The time frame for obtaining the home equity loan can range from about two weeks to roughly 30 days.

Homeowners generally need a credit score of 720 or higher; they'll need to verify employment; offer proof of income; and shop harder to find a home equity loan for $10,000. Some lenders no longer offer small home equity loans or lines, Gumbinger noted.

Discover's new home equity loans, for example, range from a minimum of $25,000 up to $100,000.

Bank of America's minimum for a home equity loan is $25,000 as well.

Wells Fargo, one of the major players, said it offers home equity loans with a minimum loan amount of $20,000.

Kelly Kockos, senior vice president and home equity product manager for Wells Fargo, agreed that the qualifications for getting a home equity loan are more stringent today than in the past. Homeowners need to verify their income and provide documents to validate their financial profile.

Some steps closely resemble the process and requirements in getting a first mortgage.

The rate that a consumer receives for a home equity loan will depend on the consumer's credit score, as well as other factors. Much can depend on shopping around, as some credit unions and community banks are dipping their toes back into the home equity lending market, too.

McBride noted that the average rate on a home equity loan is 6.14%. The average rate on a home equity line of credit is 4.99%, according to Bankrate.com.

Gumbinger noted that the average home equity line of credit in his July survey was 5.18%. Fixed rates on home equity installment loans averaged 6.27%.

Home equity rates are higher than refinancing your mortgage. But cash-out refinances aren't really happening as much at the moment because it's tougher for homeowners to refinance to take cash out than trying to take out a home equity loan or line of credit, Gumbinger said.

Many lenders want the homeowner to retain more equity in the house, say 25% or so, after taking cash out when refinancing.

If homeowners already refinanced to a low rate of 3.5% or 4%, they typically don't want to refinance again now that rates have edged higher, too.

Harman stressed that the home equity loan can help consumers with a "life event," such as taking on a home improvement project or even consolidating higher-cost credit card debt.

For any of these loans to work, of course, a homeowner cannot owe more on the house already than the house is worth. Data from various sources, though, show that fewer homeowners in many markets are underwater than even just a few years ago.

Zillow, for example, reports that 30% of homes in the United States were underwater on mortgages in the second quarter of 2011. That number dropped to 25.4% in the first quarter of 2013.

But some individual areas reported greater improvements. In Michigan, for example, 42.4% of homeowners were underwater in the second quarter of 2011. But that dropped to 34% by the first quarter of 2013.

"There are people who are surprised that their values are coming back," said Mark Stevens, senior vice president and regional sales executive for Bank of America in Troy, Mich.

Other areas, including communities near Phoenix or Denver, showed even more significant gains.

Other points to consider: The typical rate on a home equity loan is fixed, so it won't rise over time. In general, a home equity loan is best used when a cost is a one-time expense and needs to be paid off in a set time frame.

McBride noted that consumers also need to realize that rates on a home equity line of credit are variable and will be a liability in a rising rate environment.

"Have a game plan for how and when you'll pare that balance when short-term interest rates start to climb," McBride said.