The average consumer might not be following every signal from the Federal Reserve, but what the central bank does plays a role in what consumers pay for just about everything, including home equity lines of credit (HELOCs), home equity loans and other types of mortgages.
When the Federal Reserve last met in July, the central bank raised the federal funds rate by three-quarters of a percentage point - a move that underscores just how seriously policymakers are taking record-high inflation. As of now, expect to see additional rate hikes out of the Fed's remaining meetings this year, in September, November and December.
"The question is how aggressive they will need to be," says Greg McBride, chief financial analyst for Bankrate. "That decision will hinge largely on what the data says about inflation trends."
The goal of these rate increases: Get inflation back to a comfortable annual pace of 2 percent.
"Supply constraints have been larger and longer lasting than anticipated, and price pressures are evident across a broad range of goods and services," Federal Reserve Chair Jerome Powell said in a statement after the July meeting. "Although prices for some commodities have turned down recently, the earlier surge in prices of crude oil and other commodities that resulted from Russia's war on Ukraine has boosted prices for gasoline and food, creating additional upward pressure on inflation."
Powell indicated "another unusually large increase could be appropriate" at the Fed's next meeting. If that happens, get ready to see further increases to the rates on many kinds of financial products, including home equity lending rates.
When the Federal Reserve adjusts the federal funds rate, the rate tied to a HELOC moves with it. That's because a HELOC has a variable interest rate just like a credit card. This means your monthly payment changes when the rate goes up or down.
Home equity loans, on the other hand, typically have a fixed interest rate, so the rate won't change once you close the loan.
One of the Federal Reserve's primary responsibilities is setting the federal funds rate, or the price of borrowing money. A higher rate tends to tamp down demand and spending, while a lower rate has the opposite effect. While the central bank has taken aggressive steps to raise the fed funds rate this year, the rate is still relatively low. Here's a look at the history of the Fed rate hikes since the 1980s.
The past two years have brought financial strain to many, but if you own a home, you've been on the fortunate side of some of the economic turbulence as home prices surged.
When you bought your home, your down payment determined how much equity you had out of the gate - say 3 percent or 20 percent. As you pay down your mortgage, you'll continue to build that equity.
With home values up dramatically, however, many homeowners have accumulated equity much faster than they would have had homes appreciated at the usual historical pace. As of June, home prices were up 18.3 percent year-over-year, according to CoreLogic. While this growth is expected to slow some in the coming months, the run-up has given the average homeowner with a mortgage $207,000 of tappable equity, Black Knight reports.
Still, if you're looking at your climbing home value with thoughts about all you can do with that equity, proceed with caution.
"Just because you have newfound wealth in the form of home equity doesn't mean you need to do anything with it," says McBride. "Remember that this is not the same as going to the ATM to withdraw your money. You are borrowing, and with rising interest rates, that borrowing is coming at an increasing cost."
As of now, you can expect home equity rates to continue to rise for the rest of 2022. If you're making payments on a HELOC, pay especially close attention to rate changes. "These have a variable interest rate, so anyone that has accumulated a large balance is subject to the exposure of rapid interest rate increases," says McBride.
The housing market is in the early stages of a correction, meaning slower price appreciation and more balanced conditions overall between homebuyers and sellers. This is due in part to rising mortgage rates. This change in the market isn't indicative of a crash, but slower appreciation will mean slower equity growth for homeowners. "Home prices are unlikely to come down," says McBride. "They simply level off. There may be isolated zip codes where prices could be subject to a pullback, but that is very much the exception rather than the rule."
The next Federal Reserve meeting concludes on September 21, and as of now, there's a high likelihood of another rate hike. The central bank will take a close look at inflation data and other factors to determine how much to increase rates. Check Bankrate here for a preview of the September meeting.
There are a number of ways to access your home's equity, including a cash-out refinance, which replaces your existing mortgage with an entirely new loan for a larger amount, ideally at a lower rate; a home equity loan; or a HELOC. A home equity loan is a type of second mortgage, while a HELOC is a revolving line of credit. All three options allow you to access funds based on your equity stake.
You can estimate your home equity simply by subtracting the amount you still owe on your mortgage from your home's value. The most reliable way to determine your value is to have a professional appraisal. If you're getting any kind of mortgage or home equity loan, your lender will require this step.
There are two key differences between home equity loans and HELOCs. First, a home equity loan comes with a fixed interest rate, so your payment will never change, while a HELOC has a variable interest rate that can make your payment go up or down from month to month. Second, a home equity loan is distributed in one lump sum, while a HELOC allows you to access money as you need it. If you're deciding between the two, Bankrate's home equity loan vs. HELOC calculator can help guide your decision.