Using a HELOC for a down payment is possible and often utilized by consumers to purchase a second home or invest in real estate.
A home equity line of credit (HELOC) enables you to access the funds you’ve built up in your home through appreciation and paying off your mortgage. You can use a HELOC for nearly anything, which leads some people to ask, “can you use a HELOC for a down payment?”
The answer is yes, so long as you have enough equity in your first house to give you the liquid assets needed for the down payment. “You could certainly use the proceeds from a HELOC,” says Sarah DeFlorio, vice president of Mortgage Banking at William Raveis Mortgage.
You’ll want to consider several factors and evaluate whether you have enough equity to draw from to fund your down payment. Here’s what you need to know.
How Does Using a HELOC for a Down Payment Work?
If you’re ready to put a down payment on an investment property or a vacation home, you might be looking to pull the equity from your existing home to fund the down payment. Here’s how to make that happen.
1. Evaluate How Much You Can Borrow
To do this, you’ll consider your home's worth and the amount you still owe on your mortgage to determine the maximum HELOC you might qualify for.
For example, if you own a $400,000 home with a $100,000 mortgage, you’d start by calculating 80% of your home’s value, which is $320,000. Then, you’ll deduct your $100,000 mortgage, which leaves you with $220,000 of equity that you can access. That’s your maximum allowable HELOC.
2. Determine What You Can Pay Monthly
Next, you’ll need to determine how much you can afford in monthly loan payments. Even if you can afford the second home’s down payment with a HELOC, you must prove you can make the monthly payments on your primary home’s mortgage, the HELOC interest payments and your new home’s mortgage payments.
This will help you develop a budget for your second home that realistically fits into your budget. You’ll need to put no less than 10% down for a second home to qualify for a conventional loan.
3. Apply for a HELOC
Before shopping for a second home, you should apply for a HELOC to start putting the process in motion and ensure you qualify. Once you close on the loan, you can draw the funds as needed for the new home’s down payment.
Check out our expert-verified picks for the best HELOC lenders.
4. Apply for a Mortgage for the Second Home
Unless you can pay all cash thanks to the HELOC, you must apply for a second mortgage and get pre-approval before shopping for your home. This will help you prove that you have the funds when putting in offers on a home and provide confidence for the sellers that you are a worthy buyer.
5. Start Shopping for Your Second Home
Now, you’re ready to shop for your second home. Reach out to a good real estate agent licensed in the area you’ll be buying. They can help you determine the best parameters for your search and recommend ideal neighborhoods based on your interests.
6. Purchase Your Second Home
This process will feel reminiscent of your first home purchase. From the day the sellers accept your offer on the home to the closing date, it will likely be 30-45 days, as that’s how long it takes to close a mortgage. At the closing date, you’ll need to be ready to make payments on your primary home, your HELOC and the mortgage for your new home.
Pros and Cons of Using a HELOC for a Down Payment
Consider these pros and cons before using a HELOC for a down payment on your new home.
Pros
- Protects emergency fund: you don’t have to drain all your accounts to purchase a second home, which can help protect you in unforeseen circumstances.
- Potentially lower interest rates: the more you put down on your second home, the lower your interest rates can be. That means you pay less throughout the loan.
- Lower closing costs than a traditional mortgage: HELOCs often have lower closing costs than a traditional mortgage.
- Improved cash flow during the draw period: The HELOC draw period — often 10 years — allows you to make interest payments only. It improves your cash flow during the early years of owning the home to fix it up or adjust to your new budget with additional payments.
Cons
- Risk to primary residence: if you fail to make payments on your new home or can’t make HELOC payments, you could lose your primary home.
- Multiple payments to manage: keeping up with the various payments required will be complex to manage.
- Variable interest rates: HELOCs have variable interest rates, making them more challenging to budget than a cash-out refinance. There are some fixed-rate HELOCs, but not many lenders offer them.
Should You Use a HELOC for a Down Payment?
Learn ideal times to use a HELOC for a down payment.
- You don’t have the cash to put at least 20% down on a new home
- Your existing mortgage terms are far better than they would be if you were to complete a cash-out refinance
- You have a large amount of equity in your primary residence
Additionally, DeFlorio notes that people who receive annual bonuses or commission-based income could be good candidates for using a HELOC as a down payment because they can use those funds to repay the loan balance.
While this is a great option for purchasing a second home, there are also times when you should not use it. Here’s a look at when to avoid a HELOC for a down payment.
- Your budget is too tight to deal with adjusting interest rates on the HELOC.
- Managing multiple payments is too complex for you.
- You can’t meet the payment requirements for your primary home mortgage, the HELOC and a second home mortgage.
HELOCs for Down Payment Options
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Alternatives to Using a HELOC for a Down Payment
For some people, a HELOC might not be the best strategy for a down payment on a second house. Here are a few other options:
Home Equity Loan
While a home-equity loan is quite similar to a HELOC, it offers greater consistency because the interest rate is fixed. You pay the same monthly payment, whereas a HELOC allows you to pay back the balance as you can.
“This type of loan is great for someone who needs to manage their repayment and is operating off a fixed income,” DeFlorio says.
Generally, these loans have lower interest rates when totaled up compared to a HELOC. You should know that it changes your primary home from an asset to a form of debt. You’ll also be making two mortgage payments on your primary residence, which could leave you upside down on payments if the real estate market experiences a downturn.
Cash-Out Refinance
You can refinance your home’s mortgage while cashing out some of its equity. This means restarting your mortgage, which can be beneficial because you’ll stretch out the payments across 30 years instead of keeping your current mortgage payment alongside a HELOC.
Bridge Loan
These loans are designed to help you bridge the gap between selling your current home and buying a new one. That way, you can buy without the contingency of selling your current home. This can help make you more competitive when offering new homes while avoiding a HELOC.
Home Equity Investment
Transition your home’s equity into cash with a home equity investment. You won’t face payments when you use this option and’ll get a lump-sum payment immediately. However, you are selling a portion of your home to an investor. You can buy the investor out with cash later. Many people use this option when they don’t have the credit to qualify for a HELOC or home equity loan. However, depending on how much the home appreciates, you could owe far more at the end of the term.
For example, if the investor purchases 20% of your $400,000 home today, you’ll get a lump sum of $80,000. But assuming the home goes up in value by 2.5% over the 10-year term, you could owe the investor $102,406.76 because that will be the new value of 20% of your home’s value.
Helpful Tips
Want to move forward with using your HELOC for a down payment? Here are a few things to keep in mind:
- Check to see that you have enough equity in your home to cover the down payment on a second property
- Your primary residence will be held as collateral until you pay back the HELOC
- Make sure you can afford two mortgages and a HELOC payment
The Bottom Line
While a HELOC can be used for a down payment, it’s not always the best strategy for people looking to buy a second home. Doing so means you’ll make three payments, the two mortgages and the HELOC, increasing your monthly payments. People receiving large annual bonuses or commission-based income could use those funds to handle their HELOC payments.
Why You Should Trust Us
Benzinga has offered investment and mortgage advice to more than one million people. Our experts include financial professionals and homeowners, such as Anthony O’Reilly, the writer of this piece. Anthony is a former journalist who’s won awards for his coverage of the New York City economy. He’s navigated tricky real estate markets in New York, Northern Virginia and North Carolina.
For this story, we worked with Sarah DeFlorio, vice president of Mortgage Banking at William Raveis Mortgage, a Northeast-based mortgage lender and broker.
Frequently Asked Questions
Can you use money from a HELOC to make a down payment?
Yes, you can use money withdrawn from a HELOC for any reason, including putting a down payment on a second property. However, it might not be the best strategy since you’ll pay two mortgages and variable interest on the HELOC loan.
Is it illegal to use HELOC for down payment?
No, using money from a HELOC for a down payment is not illegal.
What should you not use a HELOC for?
HELOCs can legally be used for any reason, though financial experts caution against using them for personal expenses, such as vacations or luxury purchases. Instead, the funds should be earmarked for renovations that can increase your home’s value, unexpected medical expenses or consolidating debt.
Sources
- Sarah DeFlorio, vice president of Mortgage Banking at William Raveis Mortgage
About Anthony O'Reilly
Anthony O’Reilly is an updates editor for Benzinga. He’s won numerous journalism awards for his coverage of the New York City economy and Long Island school district budgets.