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Home Equity

Can I Use a HELOC to Buy Property?

You can use a HELOC for just about anything you want, including buying a second property. Many homeowners have leveraged their first home to gather down payment funds for a second. The flexible nature of HELOCs also works well if you’re looking to upgrade or build a second home from scratch. 

Using a HELOC to buy property involves different considerations than using other loan types. It requires extra forethought to do well, but properly used, it can be a powerful tool. 

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How does using a HELOC to buy property work?

HELOCs work differently than most other types of loans. They operate in two phases:

  1. Draw period: Borrow up to your credit limit while making minimum interest-only payments for five to 10 years. You can repay more to refresh your credit limit. 
  2. Repayment period: Borrowing is no longer allowed, and you’ll repay any outstanding amount (plus interest) over 10 to 20 years.

You can use these two phases to your advantage if you use a HELOC to buy property. Because HELOCs allow you to refresh your credit limit by paying above the minimum, you can use it to borrow money several times for many years. This could be handy if you’re slowly building or remodeling a home.

If you don’t need to borrow more money and you’re OK paying more over time, you could take advantage of the lower interest-only payments in the draw period. That might free up cash flow for other needs, such as readying your primary home for sale or developing a new income stream.

But in either case, remember—after the draw period ends, you’ll enter the repayment phase, where you must repay the outstanding balance. Your monthly payment amount can rise dramatically during this time if you have a large balance, and if you can’t repay it, the lender could foreclose on your main home.

How much can I get from a HELOC to invest in property?

Every lender is different, but most HELOCs allow you to borrow up to 85% of your home’s value, minus the balance of your mortgage. This number is known as your loan-to-value ratio (LTV), and you can use it to calculate your potential HELOC credit limit with a simple formula:

(Lender’s max LTV) x (Your home’s current value) – (Your current mortgage balance) = Potential HELOC limit

Let’s take a look at a homeowner who still owes $100,000 on a $400,000 home:

0.85 x $400,000 – $100,000 = $240,000

In this case, the homeowner has significant equity in their home, and if they meet other requirements, they could qualify for a line of credit up to $240,000.

Not everyone can use a HELOC to buy property. If you don’t have enough equity in your home, the amount you can borrow may be negative, which means you’ll need to build up at least that much more equity in your home before you’re eligible:

0.85 x $400,000 – $350,000 = –$10,000

In this example, our homeowner owns a $400,000 house but still owes $350,000 on their mortgage. They’ll need to pay off $10,000 more before they can qualify for a HELOC—and in reality, they’ll need to pay off far more if they want to have much of a line of credit to borrow against. 

How do you qualify for a HELOC for an investment property?

Besides your home equity, lenders will consider other HELOC qualification factors when assessing your application. Lenders use these factors to make a decision about whether you’re approved for a HELOC, but some lenders may also use them to determine your credit limit:

  • Income: Enough to afford monthly payments. Stable and consistent income is preferred, but self-employed applicants may qualify with more extensive documentation.
  • Credit score: Mid-600s or higher.
  • Debt-to-income ratio: 50% or less, defined as the percent of your monthly income that goes toward minimum debt payments on all other loans.

Lenders may have other requirements for HELOCs. Many lenders don’t offer HELOCs on properties other than your primary home, for example, which can make it more difficult and expensive if you’re looking to take out a HELOC against an investment property you already own.

Is it smart to use a HELOC to invest in property?

As with any tool, a HELOC can be a smart strategy, depending on the context. 

In my experience, using a HELOC to purchase investment property or land can be a financial risk if the property does not produce the anticipated income the investor is expecting and the investor doesn’t have sufficient cash reserves or a strategy to bridge an income gap or loss of income.

Then the investor may end up selling at a loss or be in a position where they can’t repay the loan and therefore risk foreclosing on their primary residence or being forced to sell that property as well.

Erin Kinkade, CFP®
Erin Kinkade, CFP®
Erin Kinkade , CFP®, ChFC®

Take these factors into account when determining whether a HELOC is right for you:

Pros

  • Flexible use of funds

    Use the money for a down payment, for the entire purchase price, to remodel your primary home, to consolidate debt, or anything else you want—HELOC uses are endless.

  • Extra borrowing power over time

    Repay the money you borrow to refresh your line of credit as many times as you want during the draw period without applying for a new loan each time.

  • Lower interest rate than other funding sources

    Mortgages and home equity loans tend to have lower rates, but HELOC rates are close—and they’re often cheaper than personal loans, credit cards, and other options.

  • Low minimum payments during the borrowing period

    Lenders charge interest-only payments during this time, which makes the payment much more affordable (at least to start). This frees up cash if you have other needs.

Cons

  • Less equity

    Borrowing against your home equity means it will take longer to pay off your own home. Until you repay those funds, it also reduces your opportunity to tap into home equity in the future, such as for a reverse mortgage or cazh-out refinance.

  • No tax deduction

  • High closing costs

    Most people pay between 2% and 5% of the HELOC credit limit to establish a line of credit.

  • Foreclosure risk on the first property

    If you use your primary home to borrow for a second property and can’t make your payments, you could lose your first property. 

  • More difficult to get for non-primary homes

    Many lenders only offer HELOCs on primary homes. It can be harder to find lenders—and harder to qualify—for HELOCs taken out against investment properties or second homes. 

  • Variable interest rate and payment amount

    Your rate (and thus your monthly payment) is subject to the whims of the economy, and your payment could rise dramatically when you enter the repayment phase. 

If you’ve done your due diligence, are in sound financial condition, have sufficient cash reserves, and have made a payoff plan while not solely relying on income generated from the investment property, using a HELOC for this purpose can be an effective strategy.

Erin Kinkade, CFP®
Erin Kinkade, CFP®
Erin Kinkade , CFP®, ChFC®

Alternatives to a HELOC for investing in property

While a HELOC can be a flexible option for purchasing property, it’s not your only choice. Here are two popular alternatives that allow you to leverage your home equity to invest in property:

Home equity loan

A home equity loan provides a lump sum of money you can use for a down payment or to purchase an investment property outright. Because it offers fixed interest rates and predictable payments, it’s an appealing option for investors who value stability. 

For example, you could use the equity in your primary residence to secure a loan and finance the acquisition of a rental property. However, because the loan repayment starts immediately, be sure the expected rental income or other cash flow can support the additional debt.

Cash-out refinance

A cash-out refinance lets you replace your mortgage with a new one for a larger amount, giving you the difference in cash to invest in property. You could refinance your primary home to access its equity and use the funds for a down payment on an investment property. 

This strategy can be advantageous if current mortgage rates are lower than what you’re paying now. However, it’s important to consider the costs of refinancing, such as closing fees, and ensure you’re comfortable with extending the life or increasing the size of your mortgage.

FAQ 

Can a HELOC be used to purchase land?

Yes, you can use a HELOC to buy land. Most lenders don’t restrict how you spend the funds. Land purchases may require careful planning due to their lack of immediate cash flow, unlike income-generating properties. Ensure that the variable interest rates of a HELOC fit your financial goals, especially if the land’s value appreciates slowly or requires development.

Is it smart to use a HELOC for a down payment on a rental property?

Using a HELOC for a down payment can be a smart strategy if you’re confident in the investment’s cash flow and appreciation potential. For example, leveraging your primary home’s equity to purchase a rental property could allow you to grow your portfolio without needing a large cash reserve. 

However, this approach carries risks: Your primary residence is collateral for the HELOC. Evaluate your finances to ensure you can manage the HELOC payments and property-related expenses.