Should You Use a HELOC as an Emergency Fund?

Having an emergency fund is crucial, but saving enough cash isn’t always realistic. For homeowners, a home equity line of credit (HELOC) may seem like a tempting safety net. But is it the best choice?

In this article, we’ll look at the pros and cons of using a HELOC as an emergency fund. While a HELOC offers fast access to funds, the risks—like variable interest rates and putting your home on the line—make it a decision to weigh carefully.

Can you use a HELOC as an emergency fund?

A HELOC provides access to a credit line based on a percentage of your home equity and your ability to repay (factoring in income, debt, and credit score). Unlike a home equity loan, which gives a lump sum, a HELOC lets you draw on the line as needed—making it more flexible for emergencies.

However, remember that your home acts as collateral. If you can’t repay the HELOC, you risk losing your home, which is a significant downside to consider.

You can access HELOC funds in two ways:

• Through a transfer to your bank account
• By using a credit card linked to the HELOC.

Interest accrues only on what you borrow, and you can repay and borrow again as needed, similar to a credit card.

The typical draw period lasts five to 10 years, followed by a repayment period that lasts several years. 

Pros and cons of using a HELOC as an emergency fund

A HELOC can be a convenient way to prepare for a financial emergency, but you must consider the drawbacks.

Pros

• Fast access to a large sum

  A HELOC could provide several months of living expenses if you experience a major medical event or get laid off. 

• Acts as a safety net

  You can open a HELOC but never use the funds. This safety net provides peace of mind for borrowers without large cash savings. You can use your money for other purposes, such as retirement savings or college tuition.

• Low-interest financing

  Because a HELOC is based on your home equity, interest rates tend to be low compared to other types of financing.

• Interest-only payments during the draw period

  Most HELOCs only require you to pay interest during the draw period, and then you’ll make full payments once that period ends. 

• Possible tax deduction on interest

  You may be able to claim the interest you pay as a tax deduction if you use your HELOC for IRS-approved home improvements. The maximum interest you can deduct is $750,000, combining your mortgage and HELOC. 

Cons

• It’s a type of second mortgage

  Your home acts as collateral for a HELOC. If you fall behind on your payments, you risk foreclosure.

• Interest rates are often variable

  Variable HELOC rates are subject to change. If interest rates rise, you could owe more than expected.

• Financing fees

  As with any home loan, you’ll likely need to pay closing costs on a HELOC. You may also need to pay for an appraisal to confirm the value of your home. Some financial institutions also charge an annual fee to keep a HELOC open. 

What emergencies can I use a HELOC for?

HELOCs offer a lot of flexibility for emergencies, as there are no restrictions on how you can use the funds. This makes them useful in a wide range of urgent situations.

However, it’s important to set boundaries to avoid overspending. True emergencies, like a medical crisis or sudden job loss, are clear-cut reasons to tap into a HELOC. But it’s easy to justify other expenses, like upgrading an older car or tackling non-essential home improvements, which may not be the best use of a HELOC.

Before opening a HELOC, create a plan outlining what qualifies as a real emergency and when it’s better to use cash savings or delay the expense.

How long can I keep my HELOC emergency fund open?

Most HELOCs come with a draw period of five to 15 years followed by a repayment period of up to 30 years. You can no longer borrow funds at the end of the draw period. From there, you’ll start paying off the principal and interest. 

You’ll likely see one of the following types of repayment when you get the terms of your offer from a lender: 

1. A balloon payment that requires you to pay the full balance at the end of the draw period 
2. A monthly payment plan over the course of several years  

If you never use your HELOC or pay off the balance in full during the draw period, you won’t need to repay anything. But you might still need to pay relevant fees, such as account maintenance or inactivity fees.

Should I use a HELOC for an emergency?

A HELOC can be a valuable tool for accessing funds in a pinch, but it’s important to evaluate whether it’s the best choice for your specific situation. Here are some scenarios where using a HELOC might make sense—and others where it may not.

Scenario	Is a HELOC a good idea?
Major medical emergency	✅
Job loss or income disruption	✅
Urgent home repairs	✅
Non-essential upgrades or purchases	✖️
Minor financial shortfalls	✖️
Ongoing debt issues	✖️

When a HELOC could be a good idea:

1. Major medical emergencies: If you or a family member face an unexpected, high-cost medical event and your insurance doesn’t cover everything, a HELOC can provide immediate access to the necessary funds.
2. Job loss or income disruption: If you lose your job or face a sudden drop in income, a HELOC can help cover essential expenses like mortgage payments or utilities while you get back on your feet.
3. Essential home repairs: If your home requires urgent repairs, like fixing a broken furnace or repairing a leaky roof, using a HELOC can prevent further damage that might cost more in the long run.

When a HELOC may not be not a good idea:

1. Non-essential upgrades or purchases: Using a HELOC for non-urgent expenses like upgrading your car, remodeling your kitchen, or taking a vacation may not be wise. These are better handled with savings or delayed until you can afford them without borrowing against your home.
2. Minor financial shortfalls: If you need a small amount of money for an expense like replacing a broken appliance or paying off a credit card, using a HELOC could be overkill. You’ll also likely incur fees, which may outweigh the benefit for smaller expenses.
3. Ongoing debt issues: If you’re already struggling with credit card or loan debt, using a HELOC to cover those payments could put your home at risk. It’s better to explore other debt relief options before tapping into your home’s equity.

How do I determine which HELOC is best?

Before applying for a HELOC, ensure you understand the application process. Requirements vary by lender, but you can expect yours to consider the following:

• Credit score
• Loan-to-value ratio (most lenders only let you borrow a portion of your equity.)
• Debt-to-income ratio

It’s worth the time to shop around for the best HELOC rates and lenders to find your lowest-cost options. Start with lenders that offer online preapproval without a “hard” credit check.

Check each lender’s appraisal requirements. Does an appraiser need to come to your home and evaluate its current value? Does the lender use local real estate data to determine your home value? This can affect the timing of the loan approval process.

Alternatives to HELOC for an emergency fund

A HELOC isn’t the only way to build an emergency fund. If it doesn’t seem right for you, consider the following options. 

Cash savings

Many experts recommend keeping three to six months’ worth of your basic living expenses in an emergency fund.

It may take time to reach that threshold, but you can start by saving $500 to $1,000 in cash—enough to cover smaller emergencies, such as an emergency room visit or a car repair. 

Credit cards

Credit cards can be a quick alternative for covering emergency expenses, but they often come with high interest rates. If you use a credit card for emergencies, it’s crucial to pay off the balance in full each month to avoid getting trapped in debt.

One benefit is that credit cards are unsecured, so you don’t have to risk your home. With decent credit, approval is typically easy, even without home equity.

401(k) loan

Individuals with a 401(k) retirement account through their employer can borrow against those savings using a 401(k) loan. In 2022, the use of these loans increased by 24%. This indicates more people needed the money amidst economic uncertainty. 

If you use a 401(k) loan, you can avoid the early withdrawal penalty without worrying about a long application process. Payments come out as automatic paycheck deductions. 

However, you risk jeopardizing your retirement savings and the portfolio growth you may have experienced during the loan period. 

And if you leave your job for any reason, you often need to repay the loan in full by the following year’s tax deadline, or the funds are treated as an early withdrawal, subject to taxes and penalties.