HELOCs and personal loans have pros and cons and the best choice can vary significantly from person to person.
Numerous options are available when you need access to some extra cash. Two potential options are home equity line of credit (HELOC) vs. a personal loan. A HELOC uses your home as collateral, while a personal loan is usually unsecured. As a homeowner and personal finance expert, I can help you understand each approach's benefits and drawbacks.
- What is a HELOC?
- Pros
- Cons
- See All 11 Items
What is a HELOC?
A HELOC is a revolving line of credit that uses your home as collateral. With a HELOC, you can borrow up to 85% of your home’s appraised value. For instance, suppose your home is appraised at $500,000 and you still owe $300,000 on your mortgage. If you can borrow up to 75% of your home’s value, you can get a HELOC of up to $75,000. This is because you must subtract the amount you owe on your mortgage to find the HELOC amount. Still, HELOCs sometimes let you borrow more than personal loans, often capped at $50,000.
“A HELOC will often help a borrower get a lower interest loan and qualify for a higher amount, but you are exposing your house to risk,” says Ashley Morgan, Attorney/Owner at Ashley F Morgan Law, PC. Morgan says that while we can’t imagine foregoing a payment, one missed installment on a HELOC puts your home at risk.
Because a HELOC is a secured loan, interest rates are typically lower than rates on personal loans. However, creditworthiness is a significant factor and rates can be competitive for either product. HELOC interest rates are often variable, which can make budgeting for them difficult. However, there are some options for a fixed-rate HELOC.
There is usually a draw period of 10 years, during which you can borrow money against your credit line. You can also make interest-only payments during the draw period. This increases the amount you can borrow, much like making payments on a credit card. Once the draw period ends, you begin the repayment period, during which you repay the principal on the loan. The repayment period typically lasts 10 or 15 years.
Pros
- Potentially low interest rates
- Traditionally, it lets you borrow more than a personal loan
- May be tax-deductible if you use the money for home improvements
Cons
- Could put your home at risk if payments are missed
- Often requires closing costs and other fees
- Application process may take longer than a personal loan
What is a Personal Loan?
A personal loan is typically an unsecured loan requiring fixed monthly payments. Funding is often completed within a few business days and loan amounts can be relatively generous. For instance, many lenders offer personal loans ranging from $1,000 to $50,000, with some offering loans up to $100,000. Repayment terms usually range from two to seven years.
Because personal loans are typically unsecured, they are generally less risky. For instance, there is usually no risk of losing your home or other assets if you can’t make payments. “A personal loan likely is at a higher Interest (possibly lower than credit card rates) and typically has a lower amount financed, but it has no collateral attached to the loan,” Morgan says. However, this also means it can be tougher to qualify and receive favorable interest rates, especially for those who don’t have good to excellent credit.
Another benefit of personal loans is their flexibility. You can use the money for almost anything, though these loans are often marketed for specific purposes. For instance, you might find loans for debt or student loan consolidation, medical bills or paying for a large expense. However, the interest on personal loans usually isn’t tax-deductible, unlike the interest on a HELOC when you use it for home improvement.
Pros
- Funds may be available within a few business days
- Interest rates can be low
- Generally no risk to your home or other assets
- Interest rates are often fixed
Cons
- Interest is not tax-deductible
- Typically require good to excellent credit
- May include origination and other fees
HELOC vs Personal Loan
| Feature | HELOC | Personal Loan |
| Collateral Requirement | Uses your home as collateral | Usually no collateral |
| Loan Amounts | Up to 85% of your home’s appraised value | Typically $1,000–$50,000, with some lenders offering up to $100,000 |
| Interest Rates | Typically lower due to being secured | Generally higher |
| Repayment Terms | Interest-only payments during the draw period; repayment period typically lasts 20 years | Fixed monthly payments over the loan term |
| Flexibility | Revolving line of credit | Lump sum amount |
| Tax Benefits | Interest may be tax-deductible if used for home improvements | Interest is not tax-deductible |
| Risk | Your home is at risk if you fail to make payments | No risk to your home or other assets |
| Approval Time | Longer approval process; may require closing costs and other fees | Typically faster approval, with funds available in a few business days |
| Credit Requirements | Creditworthiness is a factor, but collateral can help offset lower credit | Generally requires good to excellent credit |
| Fees | May include closing costs and other fees | May include origination fees |
How to Choose Between a HELOC and a Personal Loan
When deciding between a HELOC and a personal loan, you must carefully consider your finances and ability to assume risk. Each choice has pros and cons, so neither is always better in every circumstance. For instance, a HELOC can allow you to borrow more, possibly at a lower rate.
“A HELOC could be a better choice if the borrower is looking to take out a large amount,” says Kyle Enright, president of Achieve Lending. “Personal loans for as much as $50,000 can be relatively easy to find, but for more than that, it can be harder,” Enright says.
However, funding for a HELOC can take longer than a personal loan, the fees can be higher and it may risk foreclosure on your home if you can’t make your payments.
If you have a stable job and money isn’t an issue, you might prefer a HELOC for its potentially higher borrowing limits and lower rates. If you plan to use the money from your HELOC for home improvement, the interest can be tax-deductible. But if you are a freelance worker with variable income, the risk of foreclosure might be too much to bear. In this case, a personal loan might be better.
You should also consider a personal loan if you need the money quickly. Funds from some personal loans can be available within a few business days, while a HELOC generally takes two to six weeks to process. HELOCs work like a second mortgage, including the associated closing costs. Personal loans may have fees, but the fees that come with a HELOC are often higher.
Either a HELOC or personal loan has pros and cons. The best choice depends on the situation.
Why You Should Trust Us
Choosing between two financial products can be daunting, each with advantages and disadvantages. As a personal finance writer with over five years of experience, I’ve spent countless hours researching the best financial products available. During that time, I’ve become familiar with the ins and outs of each product. While none are perfect, the information presented here can help you become more knowledgeable as you search for the best product to meet your needs.
In addition, the experts I consulted are among the best qualified to answer your questions about the topic. Ashley F. Morgan is a debt and bankruptcy lawyer who helps people with their debt issues and HELOCs and personal loans are two common debt consolidation tools. Kyle Enright is president of Achieve Lending, a personal finance company that helps people find loans, such as personal and home equity loans.
FAQ
What is the difference between a personal loan and HELOC?
There are several differences between a personal loan and a HELOC, but the two main differences are the type of loan and the collateral requirement. A HELOC is a line of credit that works like a credit card, while a personal loan is an installment loan you pay off over months or years. HELOCs use your home as collateral, while personal loans are usually unsecured.
Is a HELOC cheaper than a loan?
A HELOC can be cheaper than a personal loan because HELOCs often have lower rates. However, creditworthiness is a big factor in the rate you pay on either type of loan. HELOCs also have closing costs, which can significantly add to your pay.
Do you need an appraisal for a HELOC?
You typically need an appraisal for a HELOC. A HELOC acts as a second mortgage, so you may need to pay many of the closing costs you did when you first purchased your home. These include application, attorney and title search fees.
Sources
1. What you should know about Home Equity Lines of Credit (HELOC) - CFPB
2. Are HELOC Rates Fixed or Variable? - PenFed
2. Understanding a HELOC: draw vs. repayment period - Citizens Bank
2. Personal Loan Agreements: Terms and Possible Fees - Discover
3. How Long Does It Take It Get a HELOC? - Credit Union of Southern California