Using a Home Equity Loan to Buy Land (2024 Guide) (2024)

How To Use a Home Equity Loan to Buy Land

Generally speaking, the process of using a home equity loan to buy land is fairly straightforward. You take out a loan backed by the equity you have in your property, then use that money to buy the land you’re seeking.

You have two main options to do this: A home equity loan and a home equity line of credit (HELOC).

A home equity loan is a type of loan that allows you to borrow funds by tapping into the equity you have in your home. Equity is simply the part of the home you own outright, and is measured by the current market value of the property minus the outstanding mortgage balance.

A home equity loan is different from a home equity line of credit (HELOC) because it’s a lump sum of cash as opposed to a line of credit. With a home equity loan, you also pay interest on the entire value of the loan, not just the amount you spend.

Keep in mind that home equity loans are secured by the value of your home as collateral, so your home is at risk of foreclosure if you’re unable to keep up with the payments. It’s important that you have a strong understanding of home equity loans before applying.

>> Related: Learn more about the best home equity lenders

Pros and Cons of Using Home Equity for Land

There are many a few potential benefits of using the equity in your home to buy land. For starters, this approach allows you to buy the land sooner than if you waited to save up the money for it in cash.

The best home equity loans also typically have fixed rates, which means you have predictable payments for the entire life of the loan that aren’t subject to fluctuations in the home equity loan rates. You also usually pay off a home equity loan quicker than you would a 30-year mortgage, with a typical payback period of five to 20 years.

However, using a home equity loan for land has considerable risks. Because the value of your home secures your home equity loan, you are at risk of losing your home if you cannot consistently make your payments.

Using an equity loan can also deplete the equity you have in your home, which can prohibit you from future borrowing or put you in a poor financial position. There are also risks involved in investing in land, such as a lack of liquidity, zoning ordinances, development costs and risk of depreciation.

Finally, if you opt for a HELOC, you will likely have a variable interest rate. This means that your interest rates will fluctuate over time with your lender’s prime rate. Since variable rates mean that your interest changes over time, you could pay more in interest one month than the last, even if you don’t borrow any more on your line of credit.

>> Related: Learn more about HELOC rates

Qualification Criteria for a Home Equity Loan

To get a home equity loan, you have to demonstrate your creditworthiness to lenders. Many standard eligibility requirements include a credit score of 680 — though you want a score of 760 or higher to get the best rates — and a low debt-to-income ratio (DTI). DTI measures your monthly earnings against all the loans you currently have.

Lenders typically want to see a DTI ratio of 36% or less for home equity loans. You also need to show that you have sufficient income to make your payments on the loan. DTI measures a borrower’s monthly income against their monthly debt obligations.

Many lenders will require that you keep up to 20% equity in the home and will also likely ask for an appraisal on the value of your home before lending against its value. Once the home is appraised, lenders can use the market value of the home to determine the amount that you qualify to borrow.

>> Related: Learn more about best loans for fair credit borrowers

The Home Equity Loan Application Process

Before applying for a home equity loan, make sure you’re aware of all the steps involved and their associated costs.

To get your home equity loan, you need to have the proper documentation to prove your income, creditworthiness and equity in the home. As mentioned before, you will also likely need to get your property appraised to get the current market value of the home.

After you provide this information to the lender, it will begin the underwriting process where it will perform a thorough eligibility and risk assessment based on your qualifications. This process, including drawing up the loan terms, typically requires an underwriting fee. If you agree to the terms of the loan, you will sign, close on the loan and pay the corresponding closing costs — which are typically an additional 2% to 5% of the total loan value.

Tips for Getting Approved for a Home Equity Loan

Before applying for a home equity loan, be sure you are taking the proper steps to get approved and secure the best interest rates possible. Taking these three steps will help you succeed in your home equity loan approval.

1. Pay down debts: Pay as much as possible on any pre-existing debts before applying for new loans like a home equity loan. This will help lower your DTI and may free up funds to make your payments.

2. Improve your credit score: Your FICO credit score determines your creditworthiness with a lender. The higher your credit score, the higher the likelihood that your loan will be approved and that you will receive a more favorable rate.

3. Vet lenders: Ask different potential lenders for referrals from past clients so you can find out about the lenders’ fees, closing costs and borrower experience.

Keep in mind that you want to speak to multiple lenders to find the best deal on your home equity loan.

>> Related: Learn more about the financial impact of your credit score

Alternative Financing Options

Home equity loans aren’t the only option when it comes to financing land purchases.

The Bottom Line

A home equity loan, where you are borrowing against the equity of your home, is one form of financing to buy land. When taking out a home equity loan, you want to carefully assess your borrowing needs, be aware of the requirements needed and ensure you can afford to consistently make the repayments.

You also want to make sure you are comfortable with the risk of a home equity loan. Since you are borrowing against the value of your home, you could face foreclosure and lose your home if you miss too many payments. It’s recommended to consider all your options and research multiple lenders before taking out a home equity loan to buy another home or land.