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What are home equity loans and HELOCs?

A home equity loan (HEL) allows you to borrow against a portion of your home’s equity. Your lender provides the equity — the difference between what you owe on your mortgage and your home’s market value — in a lump sum. 

A home equity line of credit (HELOC), on the other hand, is a revolving line of credit you can draw on when needed, during the preset draw period.

Home equity interest rates

Interest rates on HELs and HELOCs are typically higher than traditional mortgage rates because they are types of second mortgages, which take second position behind your original home loan. If you lose your home to foreclosure after defaulting on your loans, your original (first) mortgage lender would be repaid before your home equity lender. 

If local home values drop, you might not have enough equity to pay off both your first and second mortgage if you have to sell your home. Or, if you fall on hard times, you might have to prioritize making payments on your first mortgage, leaving you behind on your second. Lenders consider these extra risks when offering home equity loan rates.

The rates and ranges in the table assume a $25,000 home equity loan or HELOC on a property with an 80% LTV ratio.

Loan typeAverage rateRange
15-year fixed5.21%2.25% - 11.75%
10-year fixed5.02%2.38% - 9.75%
5-year fixed4.73%1.99% - 9.50%
HELOC4.26%1.89% - 8.00%

How does a home equity loan work?

Home equity loans allow homeowners to access their equity in a lump sum. Lenders often issue them as fixed-rate loans with five- to 30-year repayment terms. 

Let’s say your home is worth $250,000 and your mortgage balance is $150,000. In this case, you’d have $100,000 in equity. However, you’re typically limited to borrowing 85% of your home’s value, minus what’s owed on your first mortgage, when taking out a HEL or HELOC. In this example, you may qualify to borrow up to $62,500.  

Home equity loans are repaid in monthly installments, just like the first mortgage on your home. If you’re still repaying your first mortgage and decide to borrow a HEL, you’d be responsible for both mortgage payments each month until they’re paid in full.

Home equity loan vs. HELOC

A HEL is provided in a lump sum and immediately repaid in monthly installments, while a HELOC is a revolving line of credit that works similarly to a credit card. Your lender approves you for a certain amount that you can spend as needed. You make payments on what you borrow rather than the total credit line. 

HELOCs often have a 10-year draw period, during which you can borrow from the available credit line and pay interest only on the balance used. After the draw period ends, you’ll enter the repayment period, when you’ll pay off the remaining balance. 

HELOCs usually come with variable interest rates, though some lenders do offer fixed-rate HELOC options. HELs tend to have fixed interest rates.

HELs and HELOCs for bad credit

You can qualify for a bad credit home equity loan or line of credit with as low as a 620 credit score, but you may have to shop around more than a borrower with good to excellent credit. Get quotes from at least three to five lenders, and be prepared to explain what led to your credit challenges.

When to get a home equity loan or HELOC

Common scenarios when it might make sense to take out a home equity loan or HELOC include:

  • Making major home improvements
  • Consolidating high-interest debt, such as credit card or personal loan balances
  • Covering higher education expenses
  • Funding a new business venture
  • Buying an investment property for general rental income

Pros and cons of home equity loans

  • Fixed-rate payments for the life of the loan. If you borrow a HEL, you’ll enjoy a stable monthly payment for the duration of your loan term.
  • Lower interest rates than some other options. Home equity loan interest rates are typically lower than rates for credit cards and personal loans. This is especially important if you’re weighing whether to use a personal loan or home equity loan for debt consolidation.
  • Tax-deductible interest if used for home repairs or improvements. If you use a HEL or HELOC to buy, build or substantially improve the home securing the loan or line, the interest you pay on that loan is tax-deductible.
  • No prepayment penalties or annual fees. Unlike a HELOC, you won’t be penalized for paying your HEL off early or incurring annual maintenance or membership fees.
  • Higher interest rates than first mortgages or HELOCs. Besides coming with more risk for your lender because HELs take second position after your first mortgage, they also tend to have higher rates than HELOCs since they are fixed for the entire loan term.
  • Closing costs up to 5% of the loan amount. Home equity loan closing costs can range from 2% to 5% of your loan amount, while HELOCs may have lower or no closing costs.
  • Risk of losing your home. Your house is used as collateral when you take out a HEL, just as it is on your first mortgage. So if you fail to repay the loan, you’re putting your home at risk of foreclosure.
  • Smaller profit after a home sale. If you still owe a balance on your HEL or HELOC when selling your home, you’ll receive fewer proceeds from the transaction.

Alternatives to home equity loans

If you’re not sure whether a home equity loan is best for your situation, consider these three options instead:
  • Cash-out refinance

    If current mortgage rates are low, it may be worth replacing your existing home loan with a new mortgage that has a larger loan amount and pocketing the difference with a cash-out refinance. Choose from conventional or government-backed refinance programs — the latter offers more flexibility than HEL programs for borrowers with lower credit scores.

    How it compares to a home equity loan

    • – You’ll typically pay lower interest rates compared with a HEL or HELOC.
    • – You’ll pay higher closing costs because you’re borrowing more money than you would with a HEL.
  • Reverse mortgage

    Homeowners 62 years or older may be eligible for a reverse mortgage, which allows you to convert your equity into income without having to make a monthly payment. The big difference between a reverse mortgage and a regular “forward” mortgage is your loan balance grows and home equity shrinks over time.

    How it compares to a home equity loan:

    • – You have more options for receiving your equity besides a lump sum, such as a line of credit or monthly payments.
    • – You can’t deduct mortgage interest paid on a reverse mortgage from your taxable income, which differs from a HEL used for home improvements.
  • Personal loan

    An unsecured personal loan can be a viable option, especially if you have little to no equity built in your home. There’s no collateral required to secure a personal loan, which means you wouldn’t be putting your home at risk of foreclosure by using it as collateral.

    How it compares to a home equity loan:

    • – You’ll have a higher interest rate on a personal loan than a HEL and HELOC because rates range from 10% and 28% on average.
    • – You’ll have shorter repayment term options — your lender may offer terms between two and five years, though some lenders have longer terms.

Home equity loan FAQS

Home equity is the difference between your home’s market value and what you currently owe on your mortgage. As you pay your loan balance down and home values increase over time, home equity usually grows.

To calculate how much home equity you have, subtract your outstanding loan balance from your home’s value. For example, if your home is worth $200,000 and your mortgage balance is $150,000, you have $50,000 of equity.

Most home equity lenders let you tap up to 85% of your home’s value, minus your outstanding first mortgage balance. Some lenders may offer high-LTV home equity loans that allow you to borrow more.

Home equity loan interest rates change with the financial markets, but are typically lower than other forms of borrowing, such as unsecured personal loans or credit cards.

It may take two to four weeks to close on a HEL. You may receive the funds at closing or a few weeks later, depending on the lender.

Making late payments on a HEL could damage your credit score. If you default on a HEL, you could lose your home because your home is the collateral that secures the loan.

Yes, if home equity loan funds are used for home improvement, the interest you pay on the loan can be deducted from your taxable income each year.