Comparing HELOC vs. home equity loan
Quick insights
- A home equity loan provides a lump sum of money with a fixed interest rate and predictable monthly payments. This loan may be right if you want a set repayment plan and know exactly how much you need to borrow from your home’s equity.
- A home equity line of credit (HELOC) works like a revolving line of credit, allowing you to borrow funds as needed up to your approved credit limit. You pay interest only on the amount you use, which may be helpful for ongoing expenses or projects with changing costs.
- Home equity loans and HELOCs both require you to have a certain amount of equity. Lenders will also look at your current debt, income, home value and more.
When deciding between a home equity loan and HELOC, understanding how each option works can help you choose the right fit for your financial goals. Both options require you to have enough equity in your home. Lenders will also look at your current debt, income, and home value before approving you.
So how do you choose? A home equity loan may be better if you want a lump sum with steady payments. A HELOC may offer more flexibility if you want access to funds over time. By comparing how each works, you can pick the one that fits your financial goals.
What is a home equity loan?
A home equity loan taps into the equity you’ve built in your home. You get a lump sum of cash based mostly on the equity you’ve built up in your home. You can typically use the money however you’d use money in a checking or savings account, but the options vary by lender. You agree to repay the loan, plus interest, often at a fixed rate.
What is a home equity line of credit (HELOC)?
A HELOC is like having a credit line that’s secured by your home. Many HELOCs have a draw period (often 3-10 years) followed by a repayment period. The limit on what you can borrow is based on the equity you have in your home, among other factors. After the draw period, you enter repayment for what you borrowed, plus interest charged at a variable rate. Some lenders may offer options to lock a fixed rate on some or all of the balance. Terms vary by lender.
Pros and cons of a home equity loan vs. HELOC
Both home equity loans and HELOCs allow homeowners to borrow against the equity they’ve built in their home. However, each option has different benefits and potential drawbacks depending on how much you need, how you’ll spend and how you prefer to repay.
Pros of a home equity loan
- Predictable monthly payments: Home equity loans typically come with a fixed interest rate and set repayment schedule. This is a great option for borrowers who want consistent monthly payments, allowing them to accurately forecast their expenses.
- Lump-sum funding: You receive the full loan amount upfront. This can be helpful for large, one-time expenses such as major home renovations, debt consolidation or other substantial costs.
- Potentially lower rate than other borrowing options: Because a home equity loan is secured by your home, it may offer a lower interest rate than some unsecured forms of credit.
Cons of a home equity loan
- Less flexibility: Since you receive the full amount at closing, you will pay interest on the entire loan balance even if you don’t use all the funds immediately.
- Fixed repayment commitment: The monthly payment is set for the life of the loan, which may be challenging if your financial situation changes.
- Your home is used as collateral: Like other mortgage-related loans, failing to repay the loan could put your home at risk.
Pros of a HELOC
- Flexible access to funds: A HELOC allows you to borrow money as needed up to your approved credit limit during the draw period, rather than receiving all the funds at once.
- Pay interest only on what you borrow: You only pay interest on the amount you use, not your full approved credit limit. For example, if you have a $50,000 HELOC but only borrow $10,000, interest is charged on the $10,000 you use.
- Useful for ongoing expenses: A HELOC may be helpful for projects with uncertain costs, such as home improvements or other expenses that occur over time.
Cons of a HELOC
- Variable interest rates: HELOC interest rates typically fluctuate, which means your monthly payments may increase if rates rise.
- Less predictable payments: Because the amount you owe and your interest rate can change, budgeting may be more difficult compared with a fixed-rate loan.
- Temptation to overspend: Having ongoing access to available credit may make it easier to borrow more than you originally planned.
Key differences between a HELOC and home equity loan
Each loan option has its pros and cons depending on your financial needs and comfort with repayment flexibility. Here are some of the key differences between a HELOC and a home equity loan.
Payout
- HELOC: Revolving line of credit (borrow as needed).
- Home equity loan: Lump sum of money upfront.
Repayment
- HELOC: During the draw period, some HELOCs allow minimum payments that may be interest only; during repayment, payments generally include principal and interest.
- Home equity loan: Fixed monthly payments.
Interest rate
- HELOC: Variable interest rate (can change over time).
- Home equity loan: Fixed interest rate (remains constant).
Usage
- HELOC: Use funds as needed during the draw period, similar to a credit card.
- Home equity loan: Helpful for large, one-time expenses.
Flexibility
- HELOC: More flexible—borrow multiple times during the draw period.
- Home equity loan: Less flexible, full amount received at once.
Good for
- HELOC: Ongoing expenses like home improvements or emergencies.
- Home equity loan: One-time expenses like debt consolidation or major renovations.
Risk
- HELOC: Higher risk if rates increase, monthly payments may fluctuate.
- Home equity loan: Predictable costs, potentially lower financial uncertainty.
Interest payments
- HELOC: Pay interest on what you borrow from the revolving credit line, similar to a credit card. If you’re approved for a $50,000 HELOC but only use $10,000, you will only pay interest on the $10,000, not the entire $50,000.
- Home equity loan: Pay interest on the entire loan amount. If you take out a $50,000 loan, you’ll pay interest on the entire $50,000, even if you don’t spend it all right away.
Similarities between HELOCs and home equity loans
Home equity loans and HELOCs have several things in common, including how they’re used and how homeowners could qualify.
Use cases
In their own ways, HELOCs and home equity loans can provide homeowners with a source of money. This can be used in various ways, from meeting financial goals to covering unexpected expenses. Here are some examples:
- Home improvements: Build a kitchen island, remodel your bathroom for added comfort and home value.
- Debt consolidation: Combining high-interest credit card balances or personal loans into a single payment streamlines your finances and may reduce interest costs.
- Education expenses: Cover tuition fees for college or pay for professional certification courses to advance your career.
- Emergency expenses: Handle unexpected bills without dipping into your savings.
- Major life events: Finance a wedding or help with a child’s down payment on their first home.
- Retirement planning: Supplement your retirement income by using equity to cover living expenses or long-term care.
Qualifications and requirements for HELOCs and home equity loans
The exact requirements vary by lender, but here are some common criteria:
- Sufficient home equity: Lenders typically require you to have at least 20% equity in your home, which is its current market value minus the outstanding loan. Requirements vary by lender and program; many lenders limit the total amount you can borrow against your home based on combined loan to value (CLTV) and your overall credit profile.
- Good credit score: Your lender will also review your credit score as part of the application. The exact minimum will vary by lender and the holistic review of your application.
- Stable income and employment: Lenders will review your income, employment history and debt-to-income (DTI) ratio to ensure you can manage additional debt.
- Low DTI ratio: Lenders may prefer a DTI ratio below 43%, meaning your monthly debt payments (including the HELOC) should not exceed 43% of your gross monthly income.
- Property appraisal: Your lender may require a professional appraisal to determine your home’s current market value before approving the HELOC. Some lenders may use an automatic valuation model (AVM).
- Strong payment history: A solid history of on-time mortgage payments and responsible credit use often increases your chances of approval.
Home equity loan vs. HELOC: Which is better?
Choosing between a home equity loan and a HELOC depends on your financial needs. A home equity loan can be an optimal option for large, one-time expenses with fixed payments and interest rates. A HELOC allows you to borrow as needed during the draw period, offering flexibility for ongoing expenses, but tends to have a variable interest rate.
In summary
When deciding between a home equity loan and a HELOC, your choice should serve your unique, current situation and long-term plans. A home equity loan provides a lump sum, and when payments are due, they’re fixed. Meanwhile, a HELOC offers more flexibility, as-needed access to funds, but the interest rate and monthly payments may fluctuate during repayment.
To learn more about your options, consider consulting with a Home Lending Advisor to receive personalized guidance.
Chase does not offer its HELOC product in the state of Texas, and doesn’t offer home equity loans in any state at this time.
