HELOCs can be a great way to increase the value of your investment properties, but there are a few things you should know before applying for one.
A home equity line of credit (HELOC) is a loan type usually used by homeowners to borrow money from their home’s equity. A HELOC on an investment property works the same way, allowing real estate investors to borrow money to make renovations to increase a home’s value or access additional funds to purchase new rental properties.
Tim Gordon, a San Diego-based real estate investor who’s used HELOCs to help fund renovations and purchases, says it’s important to have a plan when using the credit line for investment purposes.
“I approached it with caution,” he says of the process. “I had a plan of action regarding the funds' usage and was reasonable with the timing for repayment and I kept a close watch on cash to cover the HELOC payments even if the rental income had fluctuated.”
Using Gordon’s experience as a real estate investor and our writers’ financial expertise, we’ll provide tips on how to get a HELOC on an investment property, the pros and cons of HELOCs for investments and tell you how they might impact your taxes.
How to Get a HELOC on an Investment Property
If you decide that a HELOC on an investment property is right for you, here are the steps to take.
1. Research Lenders
Start by researching and identifying lenders who offer HELOCs specifically for investment properties. You can easily compare multiple online lenders and contact local banks or credit unions. Carefully compare interest rates and terms to find the lender that offers the best opportunity.
2. Determine the Equity in the Investment Property
Calculate the equity in your investment property by subtracting the outstanding mortgage balance from the property’s market value. For example, if the property’s market value is $150,000 and the outstanding mortgage amount is $80,000, the equity in the property is $70,000.
Keep in mind, however, that doesn’t mean you’ll be approved for a $70,000 HELOC loan. Most lenders approve you for a percentage of your equity, usually up to 75%, though that number can differ depending on where you apply for the credit line.
3. Gather Necessary Documentation
You’ll need documentation about income and expenses to apply for a HELOC. Plan to come prepared with proof of income, tax returns, rental agreements and proof of property insurance.
4. Apply for the HELOC
You can apply for a HELOC online or by visiting the lender’s physical location. A HELOC application usually requires basic information such as your name, address and Social Security number, plus information on income and revenue potential for the property.
5. Wait for Approval and Receive the Funds
Once your application is approved, you will receive a formal approval letter outlining the terms and conditions of the HELOC. Read these carefully to ensure you understand interest rates and repayment terms. After accepting the terms, you'll receive the funds either in a lump sum or a credit line that you can access as needed.
Pros of HELOCS on Investment Properties
HELOCs on investment properties have numerous advantages, from low interest rates to reduced risk, compared to a HELOC on your primary residence. Here are the pros:
Quick Access to Funds
HELOCs offer quick access to funds, allowing investors to take advantage of investment opportunities or cover unforeseen expenses without delays. HELOCs offer flexible funding to keep your business moving forward, from home repairs to house flipping to funds for the down payment on new investment property.
Lower Interest Rates
HELOCs typically have lower interest rates than other financing options, making them more cost-effective for accessing funds for investment properties. In addition, during the HELOC draw period, you typically only need to pay interest without repaying the principal, offering additional financial flexibility.
That said, it should be noted that the interest on HELOCs for investment properties may be greater than what you’d pay on a primary residence. Gordon says it’s still worth it, in his opinion.
“The flexibility of the HELOC allowed me to draw funds only when necessary, thereby minimizing unnecessary interest costs,” he says. “Although the interest rate was a little higher than a HELOC on a primary residence, the returns from the increased rental income and property appreciation outweighed the expense.”
Property Appreciation
HELOCs are an option to leverage existing equity to build your business. By using a HELOC to invest in property improvements or to purchase additional properties, investors can potentially increase the value of their investments over time, leading to potential appreciation and higher returns.
Cons of HELOCs on Investment Properties
HELOCs come with a few major risks you should consider carefully before proceeding.
Risk of Foreclosure
If you cannot make the required monthly payments on your HELOC, there is a risk of foreclosure on your investment property. This can lead to greater losses as well as the loss of monthly cash flow. To avoid this risk, make all HELOC payments on time or early.
Negative Cash Flow
You may have negative cash flow if the property does not generate enough income to cover the monthly payments. In this case, you’ll have to pay the difference between income and the HELOC repayment from other funds, cutting into your available capital.
Increased Debt Risk
Taking on a HELOC on an investment property adds to your overall debt load. This can make getting approved for other mortgages and loans more difficult and increase the overall risk of default.
Helpful Tips
Gordon has used HELOCs on his investment properties to add value and to buy other homes in the San Diego area. He adds that he only does this when he’s sure it would be a wise investment.
“I wouldn't use a HELOC for some really risky or speculative investments,” Gordon says. “The stakes get greater with variable interest rates, not to mention leveraging too heavily against an asset. It is all about balancing opportunity with financial prudence.”
He also advises investors that tax deductions for the interest paid on HELOC loans may differ for investment properties compared to primary residences. The Internal Revenue Service (IRS) states that the interest paid on HELOCs can only be deducted if used to build or substantially improve a property, though that rule may change after the 2025 tax year.
“For tax years before 2018 and after 2025 … interest you pay on the borrowed funds may be deductible, subject to certain dollar limitations, regardless of how you use the loan proceeds,” the IRS states on its official website. “For example, if you use a home-equity loan or a line of credit to pay personal living expenses, such as credit card debts, you may be able to deduct the interest paid.”
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 New York City economy coverage. He’s navigated tricky real estate markets in New York, Northern Virginia and North Carolina.
For this story, we worked with San Diego-based real estate investor Tim Gordon. He has used HELOCs on his investment properties to fund renovations, increase their value and make new purchases.
Frequently Asked Questions
How Are HELOCs on Investment Properties Different From Homes?
The difference between HELOCs on investment properties and HELOCs on homes is the risk they present. A HELOC on an investment property uses that property as collateral. That means you don’t risk losing your primary residence if you default on the loan. The interest rate on a HELOC may also be greater for an investment property than a primary residence.
What Are HELOCs on Investment Properties?
A HELOC on an investment property functions like a HELOC on your primary residence. The only difference is that the rental property is used for collateral. You can usually apply for a HELOC when you have at least 15% to 20% equity in the home.
What are the repayment terms for a HELOC on an investment property?
Repayment terms on HELOCs vary from lender to lender, but generally, the draw period is five to 10 years, while the repayment period is typically 10 to 20 years.
Sources
- Tim Gordon, real estate investor and financial expert at Gordon Buys Homes.
- Internal Revenue Service, “Is interest paid on a home-equity loan or a home equity line of credit (HELOC) deductible?” https://www.irs.gov/faqs/itemized-deductions-standard-deduction/real-estate-taxes-mortgage-interest-points-other-property-expenses/real-estate-taxes-mortgage-interest-points-other-property-expenses-2
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.