Ellen Chang: Home equity line of credit vs. equity loan

Home equity lines of credit (HELOCs) and home equity loans are loans backed by your house, and they’re great ways to borrow money if you’ve paid down a significant portion of your mortgage. A HELOC is a line of credit that allows you to borrow as much as you need over time with variable interest, while a home equity loan is a lump sum that is disbursed upfront and paid back in fixed installments.

Most home equity loans and HELOCs allow you to borrow up to 85% or 90% of the value of your home, and they typically have low interest rates and fair terms, since you’re using your home as collateral for the loan. Before you settle on a home equity loan or line of credit, you should shop around to find an option with the lowest fees — or no fees if possible.

What is a home equity loan?

Home equity loans let you borrow against the equity in your home with a fixed interest rate and fixed monthly payment. These loans are funded in a lump sum, and you’ll pay back funds over five to 30 years. Because home equity loans have fixed interest rates, your monthly payment will never change.

How can you use the money you receive from a home equity loan? It’s really up to you. Some consumers use it to pay for major repairs or renovations, such as adding a new room, gutting and remodeling a kitchen or updating a bathroom. Another common use is taking out a home equity loan with a low, fixed rate to pay off high-interest credit card debt. Pros of home equity loans:

Secure a low, fixed interest rate, fixed monthly payment and fixed repayment schedule.

Borrow a lump sum you can use for any purchase you want.

Some home equity loans don’t have any fees.

Loan interest may be tax deductible if used to remodel or improve your home. Cons of home equity loans:

The best home equity loan rates and terms go to consumers with good or excellent credit.

You need a lot of home equity to qualify.

What is a HELOC?

A HELOC, or home equity line of credit, is a line of credit similar to a credit card. With this loan, you can borrow up to a specific amount of your home equity and repay the funds slowly over time.

HELOCs have a draw period, or a period of time in which you can access the money, that typically lasts around 10 years. During this time, you’ll be responsible for interest-only payments. That’s followed by a repayment period, where borrowing must cease and monthly principal and interest payments are required. This repayment period usually lasts 10 to 20 years.

HELOCs tend to come with variable APRs, meaning your interest rate could go up or down based on market trends. Due to the variable interest rate and the fact that you can tap the funds on your own timetable instead of getting it all upfront in a lump sum, this option may be better for consumers who aren’t 100% sure how much cash they need or who have long-term financial needs, like college tuition payments.

Pros of HELOCs:

Only borrow as much money as you need.

Many HELOCs come without any fees.

Repayment options can be flexible.

You may be able to deduct the interest on your HELOC on your taxes if you use the funds to improve your home. Cons of HELOCs:

Variable interest rates can change with the whims of the market.

You need considerable equity to qualify.

Key differences

Some of the major differences between HELOCs and home equity loans are:

Fixed vs. variable interest rates: Home equity loans come with predictable, fixed monthly payments. HELOCs have variable rates, meaning your rate may rise and fall over time.

Average APRs: Rates fluctuate with the market, but in general, HELOCs have slightly lower interest rates than home equity loans.