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Home equity loans and HELOCs allow you to turn your home equity into cash. Many homeowners use them to pay for repairs or improvements, but that is not the only way to utilize them.
Are you considering taking out a home equity loan or HELOC? Let’s dive into the wide variety of home equity loan uses.
Seven uses of a home equity loan or line of credit
First, you will need equity in your home to take out a home equity loan or HELOC. Equity is your home’s value minus your current mortgage balance. In most cases, you’ll need at least 20% equity in your home to qualify, although some lenders may go lower. You will also need a debt-to-income ratio of 43% or lower and, generally, a credit score of at least 620.
If you meet these requirements, one of the following uses of home equity loans or HELOCs might be an option.
- To pay for home improvements
- To buy another house
- To buy an investment property
- To pay off credit cards
- To consolidate debts
- To cover business expenses
- To pay for a vacation
To pay for home improvements
HELOCs and home equity loans can be great ways to pay for home improvements, renovations, and repairs, such as replacing a roof or building a fence. They come with much lower rates than you’d see on other financing options, particularly credit cards, so if you don’t have the funds to pay for your projects in cash, they tend to be one of the more affordable financing solutions.
Using home equity loans for home improvements can also qualify you for a valuable tax deduction. Just talk to a tax advisor if you plan to leverage this write-off, as there are some IRS rules you must follow.
Some other home improvement resources include:
- Landscaping financing
- Septic tank financing
- Deck financing
- Plumbing financing
- Home addition loans
- Bathroom remodel financing
- Hot tub financing
- Kitchen remodel financing
To buy another house
These loans can allow you to buy another house — maybe a vacation property or a second home. If you have a lot of equity, you may be able to use a home equity loan or HELOC to buy that second property in full, without a mortgage.
If you have less, you can still use the loan to cover your down payment, closing costs, and other associated purchase fees. Just remember: you’ll need to qualify for a mortgage to cover the rest, which may be more difficult with several large outstanding debts to your name.
To buy an investment property
If you’re eyeing an investment property, HELOCs and home equity loans can be an option for financing your purchase. The benefit is that interest rates are typically lower on these loans than investment property mortgages and timeshare loans. However, they put your primary property at risk. Meaning, if you cannot make payments, the lender could foreclose, and you’d lose your house.
To pay off credit cards
Many homeowners use home equity loans and HELOCs to pay off credit card debt. Why? They usually come with significantly lower interest rates. For example, the average credit card rate is a whopping 14.54%, according to the Federal Reserve. Home equity loans? They average a mere 4.14%. For most consumers, paying off your cards using a much lower rate equity loan can save you lots of interest over the long haul.
Note: You could also use a HELOC to pay off student loans. Learn more with our guide.
To consolidate debts
If you have debts beyond credit cards, home equity loans and HELOCs can be an option. In this scenario, you’d use the loan to pay off all debts: credit cards, personal loans, car loans, and so on. This would give you one loan with a single payment and interest rate.
Again, the rate on home equity loans is usually lower than on other types of financing, so in many cases, it can lead to savings in interest.
To cover business expenses
While you can use equity products to start a business or for business-related expenses, we recommend against it. Even with these products often being easier to qualify for than business loans (e.g., you don’t need to prove your business is profitable), risking your home for a business that may not turn around has high risk.
According to the Bureau of Labor Statistics (BLS), approximately 45% of new businesses fail within the first five years and 65% fail within 10 years. If your business fails and you can’t afford to repay your home equity loan, you could lose your business and home.
To pay for a vacation
Some homeowners use home equity loans and HELOCs to cover vacation costs. If the alternative is paying for the trip with a credit card, this can help you save on interest costs. In the case of a HELOC, it can also allow you to withdraw funds as needed on your trip, this can be helpful if you’re not exactly sure how much you’ll need before you leave.
While this is a potential use for a home equity loan, we don’t recommend it. The reason is simple: by financing your vacation, you’re paying the cost of your trip, plus interest. Consider taking a less expensive vacation or pushing off the trip until you can afford it without financing.
Other less common uses
Of course, the seven uses discussed above aren’t the only reasons someone may consider a home equity loan. Here are a couple other less common uses:
What’s the difference between a home equity loan and a line of credit?
Home equity loans and HELOCs are both equity-based products, but they’re not the same. Home equity loans function more like second mortgages. You’ll get a lump-sum payment upfront and then pay it back monthly over an extended period. You’ll have a monthly payment in addition to your existing mortgage payment.
HELOCs, on the other hand, work more like credit cards. You’re given a line of credit that you can pull from as needed. You can access the money over what’s called the “draw period,” and once that ends, you’ll enter the “repayment period” and start repaying the debt. The big benefit of HELOCs is that you pay interest only on what you borrow. The downside? They typically carry higher interest rates than home equity loans and if you never start paying back the loan principal, you will have that loan forever.
|Home equity loans||HELOCs|
|Interest rate type||Fixed||Variable, typically|
|Payment||Lump sum, upfront||As needed|
|Interest payments||Paid on the full loan amount||Paid only on what you withdraw|
|Best for||Homeowners who know how much they need to borrow||Homeowners who want flexibility in the amount they borrow|
>> Read More: Home equity loans vs. HELOCs
What are the benefits of using a home equity loan or line of credit?
The biggest benefit of home equity loans and HELOCs is their low-interest rates. In most cases, consumer financing products come with much higher rates than mortgage products, so these loans can usually save you on interest.
They may also be easier to qualify for than other types of loans (investment property mortgages, business loans, etc.). Depending on how much equity you have, they may allow you to borrow more than other financing products can offer.
If you’re a homeowner, home equity loans and home equity lines of credit may be options when you need cash. Just ensure you weigh all other options, keep your long-term goals in mind, be confident you can make the payments, and consult a financial advisor if you’re unsure which route to take.
If you opt to take out a loan, shop around with at least three to five lenders. Since rates and terms can vary widely from one lender to the next, this can help you secure the most affordable financing possible.
Author: Aly Yale