How Do I Choose a Closed- or Open-Ended Home Equity Loan?

The biggest factor in choosing between a closed- or open-ended home equity loan is your needs. If you need immediate funds for a home improvement project, medical expense or major purchase, a closed-end equity loan is the way to go. You get the money up front and begin paying it back immediately. If you don’t know exactly how much or when you’ll need the money, an open-ended line will better suit you. You use it as you need it, you pay only for what you use, and once you repay it, the money is available again.

Another factor to consider is interest rate. Closed-ended equity loans are fixed rate. This means you will pay a steady rate of interest over the life of the loan. This is good because the money has been used for its purpose and the payback will be predictable and consistent: it's same payment from the first month to the last. Of course, you can usually pay extra at any time without penalty if you so desire. An open-ended loan is priced at a floating interest rate. This means that the rate can change when the index changes. For example, if your loan is priced at prime plus 1 percent with prime being 3.25 percent, you will pay a net rate of 4.25 percent. If prime goes up to 4 percent, your rate goes with it to 5 percent. But, again, this is only applicable on the portion of the money you use. Open-ended lines also sometimes carry “teaser rates.” These are low, fixed rates for a period of six months to one year. After the teaser rate expires, the floating rate kicks in.

Closed-ended equity loans are nothing if not stable. Lenders offer a variety of terms on equity loans going anywhere from five to 20 years. The rates will be higher the longer the term but will stay fixed for the duration. An open-ended equity loan is often what is referred to as evergreen. This means, as long as you use and pay on the line, it will remain open. Once you’ve accessed the line, you will pay interest on what you’ve used, but the balance won’t go down until you make principal payments when you are able. When the loan balance has been fully paid back, it will remain available until you choose to use it again, although the lender may contact you in the event of lengthy inactivity.

Unlike a mortgage, both open- and closed-ended home equity loans are low-fee transactions. You will pay an application fee on either, but the lender will often pay most or all of the closing costs. Once active, you won’t pay any additional fees on a closed-ended loan. Open-ended equity loans are similar, but sometimes carry inactivity fees. This means if you don’t use the line for an extended period of time, say 12 months depending on the lender, you will be charged a nominal fee. Even then, this fee is rarely more than $100 assessed in any 12-month period.