If you have been paying down your mortgage for several years, you have likely built up significant home equity — the difference between what your home is worth and what you still owe. That equity is a powerful financial asset, and two of the most popular ways to access it are a home equity loan and a home equity line of credit (HELOC).
Both products let you borrow against your home’s value, but they work very differently. Choosing the wrong one for your situation can cost you money or leave you financially exposed. This guide breaks down exactly how each product works, compares their rates and risks, and helps you decide which option fits your goals.
Key Takeaways
- A home equity loan gives you a lump sum at a fixed interest rate — predictable and straightforward.
- A HELOC works like a credit card — a revolving line you draw from as needed, usually at a variable rate.
- Both use your home as collateral, meaning you risk foreclosure if you cannot repay.
- Home equity loans are better for one-time large expenses; HELOCs suit ongoing or uncertain costs.
- Most lenders allow you to borrow up to 80–85% of your home’s appraised value minus your mortgage balance.
What Is a Home Equity Loan?
A home equity loan — sometimes called a second mortgage — lets you borrow a fixed amount of money against your home equity in a single lump sum. You repay it over a set term (typically 5 to 30 years) at a fixed interest rate. Your monthly payment stays the same for the life of the loan, making it easy to budget.
How Much Can You Borrow?
Most lenders allow you to borrow up to 80% to 85% of your home’s appraised value, minus your outstanding mortgage balance. For example, if your home is worth $400,000 and you owe $200,000, your available equity is $200,000. At 80% combined loan-to-value, you could borrow up to $120,000.
Best Uses for a Home Equity Loan
- Major home renovations with a known, fixed cost
- Debt consolidation — paying off high-interest credit cards with a lower fixed rate
- Large one-time expenses like medical bills or tuition
- Purchasing a second property or investment property
What Is a HELOC?
A home equity line of credit (HELOC) works more like a credit card than a traditional loan. Instead of receiving a lump sum, you are approved for a maximum credit limit and can draw from it as needed during a draw period — typically 10 years. You only pay interest on the amount you actually borrow. After the draw period ends, you enter a repayment period (usually 10 to 20 years) during which you repay both principal and interest.
Variable vs. Fixed Rate HELOCs
Most HELOCs carry a variable interest rate tied to the prime rate, meaning your rate — and payment — can fluctuate with market conditions. Some lenders offer the option to convert a portion of your HELOC balance to a fixed rate, providing more payment stability. In a rising rate environment, this option is worth considering.
Best Uses for a HELOC
- Home improvement projects where costs are uncertain or phased over time
- Emergency fund backup for unexpected expenses
- Ongoing business expenses or investment opportunities
- Education costs spread over multiple years
Home Equity Loan vs. HELOC: Direct Comparison
| Feature | Home Equity Loan | HELOC |
|---|---|---|
| Disbursement | Lump sum upfront | Draw as needed up to limit |
| Interest Rate | Fixed | Variable (usually) |
| Monthly Payment | Fixed — same every month | Variable — based on balance drawn |
| Draw Period | None — full amount at closing | Typically 10 years |
| Repayment Period | 5–30 years | 10–20 years after draw period |
| Best For | One-time, known expenses | Ongoing or uncertain costs |
| Risk | Home used as collateral | Home used as collateral + rate risk |
Interest Rates: What to Expect
Both home equity loans and HELOCs typically offer lower interest rates than personal loans or credit cards because they are secured by your home. As of 2025, home equity loan rates generally range from 7% to 10%, while HELOC rates — being variable — can start lower but fluctuate with the prime rate.
“Your home equity is one of the most affordable sources of borrowing available to homeowners — but it comes with the highest possible collateral. Use it wisely.” — Certified Financial Planner
Tax Deductibility of Home Equity Interest
Under current IRS rules, interest on home equity loans and HELOCs may be tax deductible — but only if the funds are used to buy, build, or substantially improve the home that secures the loan. Using the proceeds for personal expenses like vacations or car purchases does not qualify for the deduction. Always consult a tax professional to confirm your specific situation.
Risks to Understand Before Borrowing
The most important risk with both products is that your home is the collateral. If you cannot make payments, the lender can foreclose. This makes home equity borrowing fundamentally different from unsecured debt like credit cards. Additional risks include:
- Falling home values: If your home’s value drops, you could end up owing more than it is worth.
- Rate increases (HELOC): A rising prime rate can significantly increase your HELOC payment.
- Overborrowing: Easy access to equity can tempt homeowners to borrow more than they can comfortably repay.
- Closing costs: Both products typically involve appraisal fees, origination fees, and other closing costs of $500 to $2,000 or more.
How to Qualify for a Home Equity Loan or HELOC
Lenders evaluate similar factors for both products. To qualify, you generally need:
- At least 15% to 20% equity in your home
- A credit score of 620 or higher (740+ for the best rates)
- A debt-to-income ratio below 43%
- Stable, verifiable income
- A current, on-time mortgage payment history
FAQ
What is the difference between a home equity loan and a HELOC?
A home equity loan provides a lump sum at a fixed interest rate, with equal monthly payments over a set term. A HELOC is a revolving line of credit you draw from as needed, typically at a variable rate. You only pay interest on what you borrow during the draw period. Home equity loans are better for known, one-time expenses, while HELOCs suit ongoing or uncertain costs.
Can I lose my home if I default on a home equity loan or HELOC?
Yes. Both home equity loans and HELOCs are secured by your home as collateral. If you fail to make payments, the lender has the legal right to foreclose on your property. This is the most important risk to understand before borrowing against your home equity, and it is why these products should be used thoughtfully and only for expenses you can confidently repay.
How much equity do I need to get a home equity loan or HELOC?
Most lenders require you to retain at least 15% to 20% equity in your home after borrowing. This means your combined loan-to-value ratio (your mortgage plus the new loan) cannot exceed 80% to 85% of your home’s appraised value. The more equity you have, the more you can borrow and the better rate you will typically receive.
Is the interest on a home equity loan tax deductible?
Interest on home equity loans and HELOCs may be tax deductible if the funds are used to buy, build, or substantially improve the home securing the loan. If you use the money for other purposes — such as paying off credit cards or funding a vacation — the interest is generally not deductible. Consult a tax professional for guidance specific to your situation.
What credit score do I need for a home equity loan or HELOC?
Most lenders require a minimum credit score of 620 for home equity products, though some require 660 or higher. Borrowers with scores of 740 or above typically qualify for the best available rates. Improving your credit score before applying can meaningfully reduce the interest rate you are offered and lower your total borrowing cost.
What happens at the end of a HELOC draw period?
When the draw period ends (typically after 10 years), you can no longer borrow from the line of credit and enter the repayment period. During repayment, you must pay both principal and interest on the outstanding balance, which can significantly increase your monthly payment. Some borrowers are caught off guard by this payment increase, so it is important to plan ahead before the draw period expires.