Reasons to consider buying a second home include a family vacation property, a short-term rental income, to fix and flip, or a long-term investment rental. In some cases, you may even be able to use a home equity loan to buy another home.
Tapping into your current home’s equity to purchase another house is possible for qualified borrowers, but first, consider several factors. Here’s a look at whether you can use your current home’s equity, what this process entails, and whether it’s the right move for you.
Jump to a section:
- Can you use a home equity loan or HELOC to buy another house?
- Should I take out a home equity loan to buy another home?
- Where can I find a lender that offers home equity loans or HELOCs
Can you use a home equity loan or HELOC to buy another house?
Two types of loans can be used to tap into your primary home’s equity, which is how much of the property you own compared to what you still owe on your mortgage loan. One is a home equity loan, and the other is a home equity line of credit (HELOC).
- A home equity loan is a single disbursement loan—similar to a personal loan—secured by the equity in your property. You get your funds in one lump sum and repay in installments.
- A HELOC is a line of credit against the equity in your property that you draw against like a credit card. You can make multiple withdrawals up to your credit limit throughout your draw period, with minimal monthly payments. Full repayment begins at the end of the draw period, and monthly payments are based on how much you borrow.
There are no regulations on how the funds are used. As long as you meet the requirements of the home equity loan or HELOC lender, you can use these funds toward the purchase of another house.
Most mortgage lenders need to know the source of your down payment funds when you buy a new property, and you could be denied if the mortgage lender doesn’t allow using borrowed funds for a down payment (assuming the home equity loan or HELOC doesn’t cover the full purchase price of the second home).
Now that we know homeowners can use their home’s equity to buy a new home, is this the best option? Here’s a look at benefits and downsides to tapping into your home equity and how to decide whether it’s the right choice for you.
Should I take out a home equity loan to buy another home?
As with most other financial dealings, you should consider the pros and cons of financing a second home with a home equity loan. Putting up your property as collateral can be beneficial but comes with high risks.
It’s important for homeowners to take proper considerations before deciding how to finance their second home purchase.
Pro: Funds for a sizable down payment
Our homes are one of our biggest single assets. Over time, that asset will likely appreciate in value; combine that with an ever-decreasing mortgage loan balance, and you may find yourself with tens (or hundreds) of thousands of dollars in established equity.
Tapping into that equity can be an easy way to access the funds needed for a large down payment on a new house. Rather than pulling that money from a savings account, a home equity loan or HELOC can give you a large lump sum from funds you might not otherwise access.
Pro: Competitive and predictable interest rates for home equity loans
Since home equity loans and HELOCs use your property’s equity as collateral, they are secured loans. This presents less risk to the lender, so they can offer better loan terms to borrowers, such as lower interest rates. This can save you significant money over the life of the loan.
Home equity loans also come with a fixed interest rate. This locked-in rate makes monthly payments predictable and ensures your rates never go up, even if market rates increase.
Pro: Diversify your assets
Real estate is considered a good investment because its value often appreciates. Adding real estate to your portfolio can help hedge against inflation and grow your assets over time. Adding a home equity loan to your real estate portfolio can be a wise option.
Con: Defaulting on the loan may cause you to lose both houses
Using a home equity loan to buy a second home could put both properties at risk. If you can’t pay as agreed, your lender could foreclose on your new home and default on the home equity loan, leading your bank to seize the asset.
Con: HELOC variable interest rates are unpredictable
A HELOC is a line of credit with a variable interest rate, meaning the rate can increase or decrease. After you borrow against a HELOC, your monthly payment can increase (or decrease) if your interest rate shifts.
Con: Home equity loan funds may not be tax-deductible
One major benefit to owning a home is your mortgage interest can be tax-deductible. However, the IRS has regulations that dictate when you can deduct interest payments on home equity loans or HELOCs.
Using HELOC or home equity loan funds to purchase a new property generally means you cannot take a tax deduction for the interest payments. If you use the funds to renovate the property that secures the loan (the primary residence), the interest can be tax-deductible.
You can only deduct the interest up to a specific amount and only if you itemize your deductions. The interest is not tax-deductible if you use a home equity loan or HELOC to purchase a second home. We recommend consulting with your tax professional for details.
Con: Could end up with 3 loans on 2 homes
Unless your home equity loan or HELOC is enough to pay for your new property, you’ll also need a mortgage to cover the remaining purchase price. You could need three home loans on two properties:
- Your first home’s mortgage
- Your home equity loan or HELOC
- A second mortgage
Where can I find a lender that offers home equity loans or HELOCs to buy a second home?
So you’ve considered all the pros and cons of taking out a home equity loan or HELOC on your current home and using those funds to purchase a second house. Now it’s time to find a lender that will allow you to do this and also has attractive loan terms.
Several lenders offer HELOCs and home equity loans you can use to buy a second property. Here are a few of our top picks and what they offer.
Figure
HELOC
- Flexible terms, redraw up to 100%, borrow up to $400,000
- 100% digital app & online appraisal
- Check your rate without hurting your credit
Figure is a home lender that offers HELOCs. It provides home equity funding in all states except Delaware, Hawaii, Kentucky, Maryland, New York, Texas, and West Virginia.
Figure has a brief online application process, no closing costs, and no appraisal. Funds arrive in as little as five days. If you’re buying an investment property, you’ll need a minimum credit score of 680; if it’s a primary home, the minimum credit score requirements are 640 in most states.
- Loan amounts: $15,000 – $400,000
- Interest rates: 4.24% – 12.25% APR
- Repayment terms: 5, 10, 15, or 30 years
- Max. CLTV: 85%
- Origination fee: Between 0% and 4.99%
- Unique features: No in-person home appraisal required
Spring EQ
Home equity loan
- Access up to 95% of your home’s equity
- Submit one application and see if you qualify for a home equity loan or HELOC
- Not available in Alaska, Hawaii, Idaho, Massachusetts, Missouri, North Dakota, New York, South Dakota, West Virginia, or Wyoming
Spring EQ offers home equity loans and lines of credit. With a Spring EQ home equity loan, homeowners can borrow up to $500,000. Spring EQ home equity loans are available to borrowers with a FICO credit score of at least 680.
- Loan amounts: $25,000 – $300,000
- Rates (APR): Starting at 9.50%
- Repayment terms: 5 – 30 years
- Origination fees: $1,395
- Unique features: See whether you qualify for a home equity loan or HELOC with one application
Is a home equity loan or a HELOC better for purchasing a second home?
If you plan on tapping into your existing home’s equity to purchase a new property, two options include a home equity loan or a HELOC. But is one better than the other?
HELOCs and home equity loans have several advantages and drawbacks. When purchasing a second home with equity funds, you might lean more toward a home equity loan.
Home equity loans provide funds in a single lump sum with a fixed interest rate. This makes it easier to use that money for a down payment instead of drawing HELOC funds over time. You can also plan for set monthly payments.
How do I know if I can borrow enough to afford the house?
Homeowners need to consider the equity they have in their current property before deciding whether they can afford to buy a second home by borrowing against that equity. This also means considering each lender’s requirements around LTV (loan-to-value) and CLTV (combined loan-to-value) ratios.
Your property’s LTV is the ratio of how much you owe on your mortgage compared to what the property is worth. For instance, if you owe $200,000 on a property with a market value of $300,000, your LTV is 66.6% (200,000 / 300,000). This means you have $100,000 in total equity.
Lenders won’t let you borrow all your equity. So how much can you spend on your new home based on the maximum amount you can borrow in equity?
If your home equity lender allows a maximum CLTV of 85%, you can borrow up to $55,000 of that equity. Between your original mortgage loan balance and your new home equity loan, you will have a combined loan-to-value ratio of 85% (200,000 + 55,000 = 255,000 / 300,000 = 0.85) on the property.
In this scenario, assuming you want to make a 20% down payment on your new home, you could use that home equity loan to purchase a house worth about $275,000.
What are the steps I need to take to use a home equity loan to buy another house?
- Determine how much you want to borrow and what you can afford. As we mentioned, you must determine how much equity you have in your home, how much a lender will let you borrow, and how much that means you can spend on your new home.
- Get ready to apply. Your potential lender will consider the equity available in your home and your individual financial situation. They will also look at factors such as your credit history, income, and whether the property is a vacation or investment home to qualify you for a home equity loan.
- Compare lenders and rates. To ensure you get the lowest possible interest rates and most competitive loan terms, shop around before committing to a lender. You don’t have to use your current bank or mortgage lender, so feel free to get quotes from multiple financial institutions first.
- Choose the most attractive offer or lender and apply. After comparing multiple lenders and home equity loan offers, select the best one and apply. Each lender will have unique requirements, so consult with them to see the documentation you must provide to finalize the loan.
- Get the funds, and purchase your new home. Once you’re approved and have submitted your paperwork, you can close on your loan. Ask your lender how fast you can get the funds from your equity loan so you can time the purchase of your next home.
If I want the second home to be an investment property, is there a difference?
Using your current home’s equity to buy a second home shouldn’t be an issue, whether you plan to use the property as a second residence, vacation property, or rental home. Most lenders won’t dictate what you can do with the funds.
Buying a second home to turn it into an investment property can be beneficial. Rent collections on an investment home or vacation property can help cover the payments on your home equity loan.
What are the tax benefits for using a home equity loan or HELOC to purchase a home?
You can get tax deductions for the interest paid on a primary home’s mortgage loan and the interest paid on a home equity loan you use to improve that property. However, no tax benefits exist for using home equity to purchase a second home.
Is there a difference between using the funds for a down payment or to pay for the whole house?
A home equity loan or HELOC can be used to make a down payment on a new home or purchase the whole house outright. What you can do depends on how much equity you have in your current home and how much you qualify to borrow from a home equity lender.
If you can’t borrow enough to fund your second house purchase in full, you will likely need to secure a mortgage for that property to complete the transaction. You will have two additional monthly payments for that property: your new mortgage and your home equity loan or HELOC.
If you take out a new mortgage loan, not all lenders will allow you to make your down payment with borrowed funds. Check beforehand to ensure your potential lender is willing to accept a down payment of home equity loan funds.
Should I consider alternative sources of financing?
Though they are a convenient way to access an unused asset, home equity loans aren’t the only way to pay for a second home. It can often be more difficult to secure a HELOC or home equity loan for this purpose compared to other financing options.
Here are alternatives you might want to consider:
- Personal loans — If you qualify, a personal loan can give you access to tens of thousands of dollars (up to $100,000 from our top personal loan lenders) in unsecured funds. These loans don’t require collateral, so the lender wouldn’t seize your property immediately if couldn’t make your monthly payments.
- Retirement funds — You can use retirement accounts for real estate investments. But be careful. Early withdrawals are subject to ordinary income taxes and penalties. Loans against your retirement accounts aren’t penalized, but you won’t earn growth potential on those funds until they are repaid with interest. We recommend consulting with a financial professional to assist with this decision.
- Cash-out refinancing — A cash-out refinance can help you access the equity in your home while refinancing your current mortgage loan. If you want to pull out cash and have the opportunity to adjust your mortgage loan terms, these can be worth a look.
What’s the biggest risk to using a home equity loan to buy a new house?
Since a HELOC or home equity loan is secured by the equity in your first home, defaulting on that loan or missing payments could put your property at risk of foreclosure. If you can’t pay as scheduled, you could lose both houses to the bank. Homeowners should consider these risks and their ability to make monthly repayments on the new loans.
It’s possible to finance a second home with equity in your home, but the risk of losing one or both homes may outweigh the benefits. It could be more difficult to secure a home equity loan for this purchase, or your new lender may not accept borrowed funds for a down payment.
Applying for a home equity loan can be complex compared to other financial products. Your lender must verify how much you owe, how much you’re eligible to borrow, and how much your property is worth. This process can take days or weeks, leaving you waiting for funds.
Homeowners should take special care to note each important consideration and choose the proper financing method. Failing to do so could be a complex—and expensive—lesson in homebuying.