A HELOC is a line of credit you borrow against using your home as collateral

A HELOC (home equity line of credit) is a revolving credit account tied to the equity in your home. You borrow money as you need it, up to a limit the lender sets, and you pay interest only on what you actually use. Unlike a home equity loan, where you get one lump sum upfront, a HELOC works more like a credit card — you draw from it, pay it down, and can draw again.

The lender calculates your borrowing limit based on how much equity you have built up. If your home is worth $300,000 and you owe $200,000 on your mortgage, you have $100,000 in equity. Most lenders will let you borrow 80 to 90 percent of that equity, so roughly $80,000 to $90,000. The exact amount depends on your credit score, income, and the lender's own rules.

You access the money through checks, a debit card, or electronic transfers — whatever method your lender offers. During the draw period (usually 5 to 10 years), you can borrow and repay as often as you want. After the draw period ends, the account moves into a repayment period (typically 10 to 20 years), and you can no longer borrow — you only pay down what you owe.

Key Takeaways

  • A HELOC lets you borrow against your home's equity and pay interest only on the amount you use, not on the full credit limit.
  • The draw period (when you can borrow) usually lasts 5 to 10 years, then shifts to a repayment-only period where your monthly payment may jump significantly.
  • Interest rates on HELOCs are variable, meaning they rise and fall with the market, so your monthly payment can change even if you do not borrow more.
  • If you cannot pay back what you borrowed, the lender can foreclose on your home because it is the collateral securing the debt.

How the interest rate and payment work

HELOC interest rates are variable, tied to a benchmark rate (usually the prime rate) plus a margin the lender adds. When the prime rate moves, your rate moves with it. This is different from a fixed-rate mortgage, where your rate stays the same for 30 years.

During the draw period, many HELOCs let you pay interest-only, meaning your monthly payment covers just the interest accruing that month. If you borrow $20,000 at 8 percent interest, your monthly interest-only payment would be roughly $133. You are not reducing the principal — the $20,000 stays on the books.

When the draw period ends and repayment begins, the payment structure changes. You now have to pay down the principal plus interest over the remaining term. That same $20,000 might now require a $200 to $300 monthly payment, depending on how many years you have left to repay. Many borrowers are surprised by this jump, especially if they have been making interest-only payments for years.

If interest rates rise during your draw period, your payment rises even if you do not borrow another dollar. If rates fall, your payment falls. This unpredictability is why HELOCs suit people who can absorb payment changes or plan to pay off the balance before the repayment period starts.

What happens if you cannot repay

Your home secures the HELOC. If you stop making payments, the lender can foreclose — meaning they take the house and sell it to recover what you owe. This is the same risk you face with a mortgage, but now you have two debts against the property: your first mortgage and the HELOC behind it.

If you sell the house, the proceeds go first to the first mortgage lender, then to the HELOC lender, then to you. If the sale price does not cover both debts, you still owe the difference. If the HELOC lender forecloses before you sell, they can force a sale and take the home.

Some lenders also have the right to freeze or reduce your credit line if your credit score drops or if the home's value falls significantly. During the 2008 housing crisis, many borrowers found their HELOCs frozen or cut in half, even though they had made every payment on time. The lender's risk assessment changed when home values dropped.

HELOC versus home equity loan versus cash-out refinance

A home equity loan is a one-time loan for a fixed amount at a fixed rate. You get the money upfront, make fixed monthly payments, and when it is paid off, it is done. There is no draw period or variable rate. It suits people who know exactly how much they need and want predictable payments.

A cash-out refinance replaces your entire mortgage with a new, larger one and gives you the difference in cash. If you owe $200,000 on a $300,000 home and refinance for $250,000, you get $50,000 in cash. Your new mortgage rate applies to the full $250,000. This works well if current mortgage rates are favorable, but it resets your loan term and you pay interest on the full amount, not just what you use.

A HELOC is best when you need money over time but do not know the exact amount upfront — for example, funding a renovation room by room, or covering ongoing business expenses. You pay interest only on what you draw, and you can access more if needed. The trade-off is a variable rate and the risk of payment shock when the draw period ends.

Costs beyond the interest rate

Most HELOCs charge an origination fee (typically 0 to 1 percent of the credit limit) to set up the account. Some charge an annual fee to keep the account open, whether you use it or not. A few charge a transaction fee each time you draw money.

You will also need an appraisal so the lender can confirm your home's current value and calculate your equity. Appraisal costs vary by region but typically run $300 to $700. Some lenders roll this into the origination fee; others bill it separately.

If you close the account within a certain window (often 3 to 5 years), some lenders charge an early closure fee. Read the disclosure documents carefully — the Truth in Lending Act requires lenders to spell out all fees upfront, but they are straightforward to miss in the fine print.

When a HELOC makes sense

A HELOC works well if you own your home outright or have substantial equity, your income is stable enough to handle variable payments, and you need access to money over time. It is cheaper than a personal loan or credit card for large amounts because your home secures it and rates are lower.

It also makes sense if you plan to pay off the balance before the repayment period begins, so you avoid the payment shock. Some borrowers use a HELOC as an emergency fund — they open it, do not draw anything, and tap it only if they need it. The cost is just the annual fee, if any.

A HELOC does not make sense if you are already stretched financially, if you cannot handle payment increases, or if you might lose your job. It also does not work if you have little equity in your home — most lenders want at least 15 to 20 percent equity before they will open one.

How to read a HELOC disclosure

Lenders must give you a Truth in Lending Act disclosure before you sign. It lists the APR (annual percentage rate), the margin and index they use, the draw period length, the repayment period length, and all fees. It also shows what your payment might be under different scenarios — for example, if you borrow the full amount and rates rise by 2 percent.

Pay attention to the margin and index. If the index is the prime rate and the margin is 1.5 percent, your APR is prime plus 1.5. When the prime rate is 8 percent, your APR is 9.5 percent. When prime drops to 7 percent, your APR drops to 8.5 percent. The margin usually does not change, but the index does.

Also check the rate cap — the maximum APR the lender can charge. Some HELOCs have a periodic cap (how much the rate can rise per adjustment period) and a lifetime cap (the highest it can ever go). A 2 percent periodic cap and a 10 percent lifetime cap means the rate can jump 2 percent per year but never exceed 10 percent total.

Frequently Asked Questions

Can I deduct HELOC interest on my taxes?

Only if you use the money to buy, build, or substantially improve your home. If you use it for other purposes — paying off credit cards, funding a business, or paying medical bills — the interest is not deductible. Keep records of what you spent the money on, because the IRS may ask.

What if my home's value drops after I open a HELOC?

The lender can freeze or reduce your credit line, even if you have made every payment on time. They reassess the home's value periodically, and if it falls below a certain threshold relative to what you owe, they may restrict access. You still owe what you have already borrowed.

Can I have a HELOC and a mortgage at the same time?

Yes. The mortgage is the first lien (first claim on the home if you default), and the HELOC is a second lien. If you foreclose, the mortgage lender gets paid first, then the HELOC lender. This is why HELOC rates are slightly higher than mortgage rates — the lender's risk is greater.

What happens to my HELOC if I sell my house?

The HELOC balance must be paid off at closing, usually from the sale proceeds. If you owe $30,000 on the HELOC and the home sells for $400,000 with a $250,000 mortgage, the HELOC gets paid from the remaining proceeds. If the sale price does not cover both debts, you owe the difference.

Can I convert my HELOC to a fixed-rate loan?

Some lenders offer this option, though it usually means closing the HELOC and opening a new home equity loan. You would lock in a fixed rate for a set term, but you lose the flexibility to draw more money. Ask your lender whether they offer conversion options before you open the account.