Yes, you can use home equity as a down payment, but the lender has to approve it and you have to borrow against your current home first

If you own a home with equity built up, you can tap that equity to fund a down payment on another property. The process works like this: you borrow money against your current home through a home equity loan or home equity line of credit (HELOC), then use that borrowed money as your down payment on the new purchase. The new lender will see this as a down payment funded by debt, which affects how they assess your risk.

The catch is that most lenders will not treat borrowed equity the same way they treat cash you already have. They want to see that you have genuine financial cushion, not just the ability to borrow more. Some lenders will allow it; others will not. The ones that do will typically require you to have already closed on the equity loan before you make an offer on the new property, so they can verify the money is actually in your account.

Key Takeaways

  • You can borrow against your home equity through a home equity loan or HELOC, then use that money as a down payment on a new property.
  • Most lenders will count borrowed equity as a down payment, but they treat it as debt on your credit profile, which can lower the amount they will lend you overall.
  • You will need to close the equity loan before you make an offer on the new property, because the new lender will verify where your down payment money came from.
  • Using equity as a down payment puts your current home at risk if you cannot pay back both the equity loan and the new mortgage.

How lenders view equity-funded down payments

When you use a home equity loan or HELOC to fund your down payment, the new lender sees two separate debts: the equity loan payment and the new mortgage payment. They add both to your debt-to-income ratio, which is the percentage of your monthly income that goes toward debt payments. A higher ratio means you may have access to for a smaller loan amount, or you may not may have access to at all.

The new lender will also pull your credit report and see the new equity loan as a hard inquiry and a new account. This can temporarily lower your credit score by a few points. If your score was already borderline for the interest rate you wanted, this matters.

Some lenders have explicit policies against equity-funded down payments. Others allow it but require the equity loan to be closed and funded before you submit your mortgage process. A few will let you use a pre-approval letter from the equity lender as proof that the money is coming, but this is less common. You need to ask your mortgage lender directly whether they will accept it and under what conditions.

The two main ways to borrow against your home equity

A home equity loan is a lump sum you borrow all at once. You receive the money, and you begin making fixed monthly payments when ready. The interest rate is usually fixed, meaning it does not change over the life of the loan. The loan term is typically 5 to 15 years. If you know exactly how much you need for your down payment, this is the simpler route.

A home equity line of credit (HELOC) works more like a credit card. The lender approves you for a maximum amount you can borrow, and you draw from it as you need it. You only pay interest on the amount you actually use. Many HELOCs have a variable interest rate, meaning the rate can change over time. HELOCs often have a draw period (usually 5 to 10 years) during which you can borrow, followed by a repayment period during which you cannot borrow anymore and must pay back what you owe.

For a down payment, a home equity loan is usually the better choice because you get the money upfront and know exactly what your payment will be. A HELOC adds complexity because the rate can change, and you have to manage the timing of when you draw the money.

What happens to your home if you cannot pay both debts

When you borrow against your home, you are putting your home up as collateral. If you stop paying the equity loan, the lender can foreclose on your home, just as your mortgage lender can if you stop paying your mortgage. Now you have two lenders with claims on the same property.

If you fall behind on payments and your home is foreclosed, the mortgage lender gets paid first (because the mortgage was there first), and the equity lender gets whatever is left. If your home sells for less than you owe on both loans combined, the equity lender may not recover their full amount. This is why equity lenders charge higher interest rates than mortgage lenders—they are taking on more risk.

Before you borrow against your home for a down payment, make sure you can afford both the equity loan payment and the new mortgage payment. If your income drops or interest rates rise and your HELOC rate adjusts upward, you need to be able to handle the higher payment.

Timing: when to close the equity loan relative to your mortgage process

The sequence matters. Most lenders want you to close the equity loan and have the money in your bank account before you explore for the new mortgage. This way, when they pull your credit and review your finances, they see the equity loan as an existing debt (which they account for in your debt-to-income ratio) and the down payment money as cash on hand.

If you close the equity loan too close to your mortgage process, the lender may see the new account and the new inquiry and ask questions. If you close it too far in advance, the lender may ask where the money came from and why it has been sitting in your account. There is no perfect timeline, but closing the equity loan 1 to 2 weeks before you submit your mortgage process usually works smoothly.

Do not close the equity loan after you have already submitted your mortgage process. The lender will have to re-pull your credit and re-run your debt-to-income calculations, which delays your approval and may change your interest rate or loan amount.

Down payment size and loan-to-value ratio

The size of your down payment affects your loan-to-value (LTV) ratio on the new property. LTV is the amount you are borrowing divided by the purchase price. If you buy a $300,000 home and put down $60,000 (20 percent), your LTV is 80 percent. If you put down only $30,000 (10 percent), your LTV is 90 percent.

Lenders prefer lower LTV ratios because it means you have more skin in the game. A lower LTV also means you may not have to pay mortgage insurance. If you are using equity as a down payment, you want to borrow enough to get to at least 10 to 15 percent down, ideally 20 percent. If your equity is not enough to reach 10 percent, using it as a down payment may not be worth the cost of the equity loan.

Alternatives if you have equity but want to avoid a second loan

If you have significant equity but do not want to take out an equity loan, you could sell your current home first and use the proceeds as a down payment on the new one. This avoids the second debt but requires you to move twice or live in temporary housing while you search for the new home.

Another option is to use a bridge loan, which is a short-term loan that lets you buy the new home before you sell the old one. Bridge loans are expensive and typically last only 6 to 12 months, so they work best if you are confident your current home will sell quickly. Most people use bridge loans only when they need to close on a new home before their current home is on the market.

If your equity is small or you are not sure whether borrowing against it makes financial sense, talk to a mortgage lender first. They can tell you whether the equity loan will actually help you may have access to for the new mortgage, or whether it will just add debt without improving your position.

Frequently Asked Questions

Will using an equity loan as a down payment hurt my credit score?

Yes, temporarily. Opening the equity loan creates a hard inquiry and a new account, both of which can lower your score by a few points. The new account also lowers your average account age. However, if you manage both the equity loan and the new mortgage on time, your score will recover within a few months.

Can I use a HELOC as a down payment if I have not drawn from it yet?

Some lenders will count an approved HELOC as available funds, but most want to see the money actually in your bank account. If you have a HELOC pre-approval, ask your mortgage lender whether they will accept a pre-approval letter or whether you need to draw the money first. Drawing it first is safer because it removes any ambiguity.

What if my home is not worth enough to borrow the down payment I need?

Lenders typically let you borrow up to 80 to 85 percent of your home's current value, minus what you still owe on your mortgage. If your home is worth $200,000 and you owe $150,000, you have about $40,000 to $50,000 in available equity. If you need a larger down payment, you would have to use savings, a gift, or a different strategy.

Do I have to tell the new lender that my down payment is borrowed money?

Yes. When you submit your mortgage process, you will be asked to document where your down payment came from. The lender will see the equity loan on your credit report anyway. Being upfront about it is required and avoids delays or complications later.