Can I Take Out a Home Equity Loan or HELOC on a Second Home?

You can take out home equity loans or HELOCs on second homes, but many lenders typically have higher eligibility standards than with primary residences.

Accessing this equity enables you to receive money that can be used to cover renovations, consolidate debt, or pay for other expenses. Still, there are some risks to consider, including higher costs and the risk of losing the home if you can’t make the payments. Here’s everything to know to make when making this decision.

Is getting approved for a home equity loan or HELOC on a second home difficult?

You can take out a home equity loan and HELOC on your second home. To go through with home equity financing on a second home, prepare to meet several lender home equity requirements:

• Credit score (often least 700)
• Debt-to-income (DTI) ratio (often below 43%)
• Ownership time (often at least one year) 
• Loan-to-value ratio (LTV) (often 85%)
• Home appraisal 
• Cash cushion

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Why do second homes have different eligibility requirements than primary residences?

Lenders have higher standards for second homes because when borrowers face financial hardship, lenders expect them to prioritize paying toward the home they live in. It can be more challenging to apply for a HELOC than a home equity loan, but it’s no easier to qualify. You’ll still find lower LTV maximums, appraisals, and financial scrutiny. 

Many banks and lenders want to see DTI ratios below 43%. This tells them how much of your income is dedicated to paying debts. Set yourself up for success by having at least six months of living expenses set aside as a cash cushion.

Your home equity loan needs to meet your lender’s LTV requirements. Calculate your LTV with the following formula:

Current home value / Remaining loan balances on the property

Most banks will allow you to borrow 80% to 85% of your home’s LTV. 

To better illustrate this, let’s work through an example. Let’s say you bought your second home for $400,000. You’ve owned it for several years and made a sizable down payment at purchase. Your mortgage balance is now $310,000, and the home appraises at $450,000. 

($310,000 / $450,000) x 10 = 68.8% LTV

You want to get a home equity line of credit for $50,000. Add that amount to the remaining balance on your mortgage to find your new LTV:

$310,000 + $50,0000 = $360,000

($360,000 / $450,000) x 10 = 80% LTV

If your lender lets you borrow up to 80% LTV, you’re in the clear.

You might be able to find favorable home equity offers from banks with which you’re established. Some offer interest-rate discounts to schedule automatic payments from an account with that bank. 

Do lenders consider my other debt during the application process?

Yes. Lenders consider your debt capacity if you apply for a HELOC or home equity loan on your second home. This includes:

• Your primary home
• Vehicles
• Student loans
• Other revolving loans 

Part of the financial analysis and underwriting process includes accounting for the following information about your debts:

• Your credit rating, including late or missed payments
• Remaining balances on your loans
• Monthly debt payments
• Your primary home’s current value
• Loans against your primary home

This essential information helps lenders determine whether it’s wise to lend you more money. 

If you have substantial debt compared to your income—i.e., a primary mortgage, a recent home equity loan on the property, a boat loan, auto loans, and student loans—it could set off red flags for your lender.  

You could be denied or approved for less than you applied for. Banks and lenders are already cautious about lending for secondary homes, so they’re diligent about decision-making.

Is borrowing money on a second home more expensive than a primary home?

Borrowing from the equity on a second home is often more costly than buying a primary home. Most lenders assign higher interest rates for secondary, investment, or vacation homes. 

Other fees may be similar to those on a primary home purchase, including: 

• Closing costs
• Subordination fees
• Origination fees
• Loan processing fees
• Appraisal fees

This isn’t true for every lender, but you should be aware of fees, including whether the lender will roll them into your loan or you’ll need to pay them upfront. Lenders must disclose rates and fees when providing information about home equity financing. 

Borrowing money from a second home is more expensive because it’s at a higher risk of default. In the economic downturn from 2007 to 2009, 35.6% of foreclosures were from strategic defaults, meaning homeowners could afford payments but refused to pay because their home was worth less than they paid. 

During financial hardships, people are more likely to default on their second home rather than their primary home. To account for the increased risk, lenders charge extra interest and fees. 

What are the risks of taking out a home equity loan or HELOC on a second home?

A HELOC or home equity loan on a second home can provide the finances to take care of home repairs, transform your kitchen, or rid yourself of credit card debt. But it also comes with significant risks, including: 

• Your home is collateral, so default results in foreclosure. 
• Potential legal action for defaulting in some states
• You risk a negative equity position in the second home if the housing market drops. 
• Since a HELOC works like a credit card, you could overspend. 
• If you run out of money on a home equity loan, you must apply for another loan.
• Another monthly payment could be excessive.
• Variable rates on the HELOC could mean an unexpected increase in payments.
• Potential prepayment penalties on home equity loans and early closure penalties for HELOCs.
• Lenders can terminate or cancel HELOCs without notice, essentially converting the HELOC to a home equity loan with the current HELOC balance as the balance of the loan. If this happens, you can’t draw additional funds on the HELOC.

Account for these risks before deciding whether to apply for a HELOC on a second home. You can avoid many risks with the right lender, but others require financial prowess to overcome. 

Should I take out a home equity loan or line of credit on a second home?

Deciding whether to take out a home equity loan or line of credit on a second home depends on your financial situation. Significant risks are associated with this form of equity financing, so be cautious. 

Ask yourself the following questions before making a choice:

• What are other, less expensive ways to finance my goals? 
• Do I have an emergency fund to handle financial setbacks?
• Would this interrupt my other money goals? 
• Do I have a steady, substantial income to maintain payments? 
• Is my credit score high enough to qualify? 
• Will I benefit from potential tax deductions? (We recommend consulting a tax pro.) 
• What’s my repayment plan? 

Reflecting on your financial position can help determine whether this is a wise decision. 

Have you racked up a large amount of equity in your second home? Need to finance some home projects without restarting your mortgage term? This could be worth considering. 

Tax considerations with debt on second homes

Home equity loan and HELOC interest may be deductible on your taxes if you use the proceeds for substantial home improvements. But if you use the proceeds from the loan for other purposes, such as paying for college, home repairs, or debt consolidation, you can’t deduct the interest. 

If you rent out your second home part-time and declare rental income on your taxes, you may be able to deduct the interest on your second home. But you must use the proceeds of the loan for home improvements. 

What qualifies as a home improvement?

For example, interest on a loan you used to renovate a kitchen is likely not tax-deductible. This is considered a renovation, not an improvement that “substantially improves” the home.

On the other hand, interest on a loan used to add a bathroom or deck where there wasn’t one before likely would be deductible.

If you rent out your second home and have placed it in a business entity, such as an LLC, the LLC must get the property loan. Lending institutions have different rules regarding entity loans, and interest rates may be higher. 

In all cases, we recommend you consult a qualified tax advisor.

Alternatives to a HELOC or home equity loan on a second home

If you’ve worked through this guide and determined a HELOC isn’t right for you, we’ve researched other options to finance your upcoming projects.

HELOC or home equity loan on primary home

If you have sufficient LTV on your primary home, you may be able to take out additional credit against your primary home. This is true even if the purpose of the loan is repairs or renovation on your second home. Interest rates are often lower with loans on your primary residence, so this may be preferable.

Personal loans

Personal loans are unsecured installment debt. They work best for goals such as paying credit card debt, starting a business, or covering emergencies. 

Cash-out refinance

Refinancing your second home could mean a lower interest rate if your credit score has jumped since you bought it. This lengthy process pays off your old mortgage with a new one. 

During this process, you can request cash from the new loan, which is added to your mortgage.  Many lenders will allow you to borrow up to 80% of your home’s value during a cash-out refinance. 

A loan from family

If you ask a family member you trust to loan you the money to accomplish your goal, you can sign a contract with them laying out the terms of your loan and when you expect to repay it. 

0% introductory APR credit cards

Many credit cards offer 0% APR on purchases for a limited time. This might be an appealing option if it’s feasible to pay off your purchase within 12 to 18 months. Be cautious because the APR after the introductory period is often high.