A HELOC is a credit line secured by your home's equity that you can borrow from, repay, and borrow from again
A home equity line of credit (HELOC) works like a credit card, except the credit limit is based on how much equity you have built up in your home. You don't borrow a lump sum upfront. Instead, you get access to a pool of money you can draw from whenever you need it, up to your credit limit. You pay interest only on the amount you actually borrow, not on the full line.
The lender secures the HELOC against your home, which means if you stop making payments, the lender can foreclose. This is why HELOCs typically offer lower interest rates than personal loans or credit cards — the lender's risk is lower because they have a claim on your property.
Most HELOCs have two phases: a draw period (usually 5 to 10 years) when you can borrow and repay as needed, and a repayment period (usually 10 to 20 years) when you can no longer draw new money and must pay down the balance. Some HELOCs convert to fixed-rate loans at the end of the draw period; others require a lump-sum payment or refinancing.
Key Takeaways
- You borrow only what you need during the draw period and pay interest only on the amount borrowed, not the full credit limit.
- Interest rates on HELOCs are usually variable, meaning your monthly payment can increase if rates rise, especially after the draw period ends.
- The lender can freeze or close your HELOC if your home value drops significantly or your credit score declines, leaving you without access to funds you may have counted on.
- At the end of the draw period, you stop borrowing and enter a repayment phase where payments typically increase because you're no longer just paying interest.
- Your home secures the debt, so defaulting on a HELOC can result in foreclosure, just as with a mortgage.
How the draw period and repayment period work
During the draw period, you access your credit line by writing checks, using a debit card, or requesting transfers to your bank account — the mechanics vary by lender. You only pay interest on what you've drawn. Many borrowers make interest-only payments during this phase, which keeps monthly costs low but doesn't reduce the principal balance.
When the draw period ends, the repayment period begins. You can no longer draw new money. Your monthly payment now covers both principal and interest, and the payment is usually much higher than it was during the draw-only phase. If you haven't paid down the balance, you're suddenly facing a larger bill each month for the next 10 to 20 years. Some borrowers refinance at this point to avoid payment shock; others face foreclosure if they can't absorb the increase.
Variable interest rates and payment risk
Most HELOCs carry variable interest rates tied to an index like the prime rate. When the index moves, your rate and your monthly payment move with it. This means your payment can change every month or every quarter, depending on your loan terms. If rates rise sharply, your payment can double or triple, straining your budget.
Some HELOCs offer a fixed-rate option for part or all of the balance, which locks in your rate for a set period. This costs more upfront but removes the guessing game. Before signing, ask your lender whether you can convert to a fixed rate and what that conversion costs.
During economic downturns or if your home value drops, lenders sometimes freeze HELOCs or reduce credit limits without warning. This leaves you without access to money you may have been counting on. It happened widely during the 2008 housing crisis, when homeowners discovered their lines had been shut down just when they needed them most.
How much you can borrow
Your HELOC credit limit depends on your home's current value, how much you still owe on your mortgage, and your credit score. Most lenders let you borrow up to 80 or 85 percent of your home's equity. If your home is worth $300,000 and you owe $200,000 on your mortgage, your equity is $100,000. A lender offering 80 percent of equity would give you a credit limit of $80,000.
Your credit score, income, and debt-to-income ratio also matter. A strong credit score and stable income increase your limit and lower your interest rate. A recent late payment or a drop in your credit score can reduce your limit or disqualify you entirely.
Costs beyond interest
HELOCs often come with upfront costs: application fees, appraisal fees, title search fees, and closing costs similar to those on a mortgage. These typically run $500 to $2,000, though some lenders waive them. Ask whether the lender charges an annual fee just to keep the line open, even if you don't use it.
Some HELOCs also charge a transaction fee each time you draw money or a prepayment penalty if you pay off the balance early. Read the disclosure documents carefully — the Truth in Lending Act requires lenders to provide a detailed breakdown of all fees before you sign.
HELOC vs. home equity loan: the key difference
A home equity loan is different from a HELOC. With a home equity loan, you borrow a fixed amount upfront and receive it as a lump sum. You then make fixed monthly payments over a set term, usually 5 to 15 years. The interest rate is typically fixed, so your payment never changes.
A HELOC gives you flexibility to borrow as needed, but that flexibility comes with variable rates and payment uncertainty. A home equity loan is simpler and more predictable but less flexible. If you know exactly how much you need and want a fixed payment, a home equity loan may be the better choice. If you want to draw money over time as expenses arise, a HELOC fits better.
When a HELOC makes sense
A HELOC works well if you have a large, ongoing expense — a home renovation, a child's education, or a business startup — that you'll pay for in stages over several years. It also works if you want a financial safety net for emergencies and don't mind the variable rate risk.
A HELOC is riskier if you're already stretched financially, if you have unstable income, or if you live in an area where home values are volatile. It's also risky if you plan to retire soon, because the jump from the draw period to the repayment period can be unaffordable on a fixed income. Before opening a HELOC, make sure you can handle a payment increase if rates rise or if the draw period ends sooner than expected.
Frequently Asked Questions
Can the lender close my HELOC without warning?
Yes. Lenders can freeze or close a HELOC if your home value drops significantly, your credit score declines, or economic conditions worsen. This happened to many borrowers during the 2008 financial crisis. Review your loan agreement to understand the lender's rights, and don't rely on a HELOC as your only emergency fund.
What happens if I can't pay when the draw period ends?
Your payment jumps because you now owe principal plus interest over the remaining repayment period. If you can't afford the new payment, you can refinance into a new loan, convert the HELOC to a fixed-rate loan, or sell the home. If you default, the lender can foreclose.
Is the interest on a HELOC tax-deductible?
Interest on a HELOC used to buy, build, or improve your home may be deductible if you itemize deductions on your tax return. Interest on a HELOC used for other purposes — paying off credit cards, funding a vacation — is not deductible. Consult a tax professional about your specific situation.
Can I have more than one HELOC?
Yes, some homeowners open multiple HELOCs with different lenders to access more total equity. Each HELOC is a separate loan with its own terms, fees, and interest rate. Multiple lines increase your total debt obligation and the risk of overextending yourself.
What's the difference between a HELOC and a cash-out refinance?
A cash-out refinance replaces your entire mortgage with a new, larger one and gives you the difference in cash. You get a fixed rate and fixed payment. A HELOC is a second loan on top of your mortgage with a variable rate and flexible borrowing. A refinance makes sense if you want to lock in a rate; a HELOC makes sense if you want flexibility and plan to keep your mortgage as is.