Personal Loan vs. Home Equity Loan: Which is Right for You?

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If you need to borrow money, a personal loan could be a better choice for one key reason

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Key points

• With both a personal loan and home equity loan, you can use your loan proceeds for any purpose.
• Though you might score a lower interest rate on a home equity loan, you'll risk losing your property if you can't make your payments.

Check out The Ascent's best personal loans for 2021

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There may come a point when you need to borrow money, whether it's to fix up your car, pay a large medical bill, or cover another surprise expense. The good news is that there are a number of loan products that let you borrow money for any reason. These include personal loans and home equity loans.

Often, you'll get a lower interest rate on the sum you borrow when you take out a home equity loan compared to a personal loan. If you're a property owner with enough equity, a home equity loan can also be easier to qualify for.

In spite of that, you may feel more comfortable taking out a personal loan. Here's why.

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When you don't want to put your home at risk

Personal loans are unsecured loans. That means they're not backed by a specific type of collateral.

Mortgages, for example, are secured loans, backed by the homes they're taken out to finance. If you don't keep up with your mortgage payments, you could risk losing your home. But if you fall behind on your personal loan payments, you won't risk losing a specific asset.

Home equity loans work just like mortgages in this regard. When you take out a home equity loan, it's secured by your home itself. If you fall behind on your loan payments, you could risk losing your home.

It's for this reason you may want to consider borrowing via a personal loan the next time a need for money comes up. That way, you're not putting yourself in a position where you might risk losing your home.

Be careful when borrowing with a personal loan

Though personal loans aren't secured and you might think the damage will be less severe if you fall behind on one, you should know that failing to keep up with a personal loan could cause major damage to your credit score. Once that happens, it could become quite difficult to borrow money if you need to.

Also, with a personal loan, the higher your credit score at the time of your application, the lower the interest rate you're likely to get on your loan. If your credit score isn't in the best shape, you might get stuck with a higher interest rate that makes your loan payments more difficult to manage.

Home equity lenders do look at applicants' credit scores, too. But because home equity loans are secured, you may have an easier time qualifying for one with a credit score that isn't the best. That means you might manage to eke out a more favorable interest rate with a home equity loan.

If you fall behind on a home equity loan, your lender could eventually force the sale of your home to get repaid. These lenders are generally more concerned with the amount of equity you have and less concerned with what your credit score looks like.

Should you choose a personal loan or a home equity loan?

No matter what loan product you use to borrow money, it's important to keep up with your payments. If you're not confident you can do that, you may be better off delaying your loan application or finding another way to address your need for money.

That said, the idea of a personal loan may sit better with you than the idea of a home equity loan. If that's the case, do some rate shopping before signing a loan so you can keep your payments as manageable as possible.

The Ascent's Best Personal Loans for 2021

The Ascent team vetted the market to bring you a shortlist of the best personal loan providers. Whether you're looking to pay off debt faster by slashing your interest rate or needing some extra money to tackle a big purchase, these best-in-class picks can help you reach your financial goals. Click here to get the full rundown on The Ascent's top picks.