A guide to using a HELOC for home improvements

One of the best things about being a homeowner is how much control you have over your living situation. Whether you’d like to add modifications to make aging in place easier or simply want to put a personal touch on your space, you’re totally in charge — as long as you can pay for it, that is. 

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Many people use personal loans and home equity lines of credit (HELOCs) for home improvement projects. In fact, HELOCs are particularly well-suited for this type of use, offering extra benefits that can help ensure you’re able to finish your renovation on time and with the lowest possible cost.  

How does a HELOC for home improvements work?

A HELOC makes natural sense when you’re doing home improvement projects, especially DIY renovations. That’s because of the unique way it’s structured, which helps you deal with the ongoing and variable costs that are common in home renovation projects. 

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Most HELOCs are structured as a two-part sequence, beginning with a draw period. You can borrow money up to your credit limit during this time period, and you’ll only have to make interest-only payments. The draw phase typically lasts for five to 10 years, after which time you transition to a repayment that lasts for 10 to 20 years. You won’t be able to borrow any more money at this time unless your lender renews your HELOC, and you’ll make full principal and interest payments to repay the funds.

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Lenders allow you to use HELOC funds for nearly any purpose, and this flexibility is critical for renovations and repairs. You might be using the funds to purchase materials and supplies at home improvement stores, for example, or paying contractors directly. In addition, HELOC funds may be tax-deductible when you use them for home upgrades. 

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A HELOC is also tied to the equity in your home, similar to your mortgage. This benefits you because lenders often charge lower interest rates than on, say, an unsecured personal loan. You need to be careful, though, because just like with your mortgage, you can lose your home to foreclosure if you default on the debt. 

Pros and cons of using a HELOC for home improvements

We’ve described how HELOCs work, but now let’s consider how those features impact your finances and your options when you actually use them for home renovations. 

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Pros

• Lower interest rates: Lenders charge much lower interest rates on a HELOC than other flexible borrowing options like credit cards, leaving more money for your project. 
• Tax deductible interest: Under current IRS rules, you can deduct the interest you pay on a HELOC if you use those funds to “substantially improve your home.” Consult a licensed tax professional to make sure your HELOC interest is eligible before deducting. 
• Additional peace of mind: Nearly 40% of home improvement projects ended up going over budget in 2023, according to a USA Today analysis. If you have a HELOC in place, though, you can sleep easy knowing that you can draw additional funds if you need to.
• Option to replenish credit line: You don’t have to, but you can choose to repay the funds you borrowed before the repayment period starts. This can save you money and refresh your credit line so you can borrow again in the future. 
• Flexible way to borrow money: If you need more funds, you don’t need to reapply for more funding when you’re in the draw phase of a HELOC like you would with other loans. In addition, you’ll only pay interest on the amount you borrow, and you can use those funds for other things, too. 
• Smaller interest-only payments to start: You only need to make interest-only minimum payments when you’re in the draw phase, which is much smaller than they’d be with other types of home equity loans. This also frees up more cash to complete your project. 

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Cons

• Fees can add up: Closing costs on a HELOC typically range from 2% to 5% of your credit limit. Your lender may also charge various other fees, such as annual fees, draw fees, and may even require you to take draws periodically to ensure you’re using the product.
• Slow funding timelines: It usually takes two to six weeks before you’re able to receive funding, so a HELOC isn’t meant for last-minute projects. 
• Can complicate home sales: Similar to your mortgage, you’ll need to repay a HELOC when you sell your home, usually with funds from the home sale. Many homeowners forget about this and are surprised by how little they have left after a home sale. In certain rare cases, if your home has depreciated, you may even owe more than your home is worth, meaning you’ll need to pay the remainder in cash immediately. 
• Credit line may change over time: It’s natural for your home value to fluctuate over time, but if it dips too low, your lender may limit or cut off access to your HELOC entirely.
• Payment amount can change a lot: HELOCs typically come with variable interest rates, and you’ll switch from making interest-only payments to repaying the full loan amount when you move into the repayment phase. Both of those factors can cause large swings in your minimum monthly payment. 
• Foreclosure potential if you default: You’re using your home as collateral when you take out a HELOC, and if you can’t repay it, your lender can foreclose on your home under the terms of the agreement you signed.

Alternatives home improvement financing options

Few financial products match up together as well as HELOCs and home improvements, but those are just general guidelines. You, as an individual, might be better served by another financial tool, so it’s important to compare your options.  

Personal loan

Personal loans are popular options for home improvements, even though they’re typically more expensive than HELOCs because your home does not secure them. If you have a good credit score, however, the difference may be negligible. 

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The main advantage is funding speed, with some lenders approving the loan and disbursing the funds on the same business day. Many personal loans don’t even charge any fees at all. You may be limited to a smaller loan amount, however, making them better options for smaller home upgrades that can be repaid over the course of one to five years. 

Home equity loan

A home equity loan and home equity line of credit (HELOC) are both secured by your home as collateral, technically making them a type of second mortgage. Home equity loans, however, are structured as a more typical term loan that you might be familiar with. 

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Fixed interest rates on a home equity loan mean that your payment amount will stay constant over time, helping you to better plan your budget each month since you know what to expect. A home equity loan would also be a better choice for a home improvement project where you know the costs with a greater deal of certainty, because these loans come with fewer fees than a HELOC and potentially lower rates as well. If you do need more funds, however, you’ll have to apply for another loan. 

Home equity investment

Many homeowners have fixed incomes that make it hard to qualify for a HELOC in the first place, even if they have plenty of equity available in their home. A good option to consider in these cases is a home equity investment (HEI), which offers upfront funds from an investor that must be repaid in 30 years as a lump sum along with a percentage of your home’s equity. During this time period, you won’t be required to make any monthly payments at all. HEIs do not have income requirements and are available to homeowners with a broad range of credit scores – often 500 and up. 

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The downside is that you can’t know the cost of funding in advance since you’re technically working with a company that’s invested in your home, unlike a lender that prefers a known and steady payment amount. Just like no one knows the future stock market prices, no one knows what the future holds for your home’s value — but, there’s a good bet that it’ll be higher than it is today.

PACE loan

A Property Assessed Clean Energy (PACE) loan is offered through local governments as a way to aid homeowners interested in improving their homes. It’s repaid in a unique way by adding a surcharge onto your property tax bill, so you won’t need to make regular monthly payments — but your tax bill will increase to a large degree. You also won’t need to make a down payment at all, making these funding options more accessible to income- and cash-limited homeowners. 

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It’s important to know that PACE loans can complicate home sales even more than a HELOC, however. Technically speaking, a PACE loan is tied to your home itself and not you as a homeowner, so it’ll stay with the property if you sell it to someone else — and few would-be homebuyers are willing to take that new charge on. 

Refinance

Most lenders offering mortgages will allow you to borrow more than you need in order to refinance your home, something known as a “cash-out refinance” because you’re essentially taking cash out against the equity in your home. This can be a powerful option if you need to borrow a larger sum of money for major home improvements, like adding a second floor to your one-story home, because you can spread that cost out over the full term of a new 30-year mortgage. 

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Many lenders charge slightly higher rates on a cash-out refi compared to a standard rate-and-term refi, however, since they’re extending you additional credit. This also resets the term on your mortgage clock and causes you to pay interest for a longer period of time compared to other borrowing options. If you can get a lower rate on your new mortgage, however, you may still end up saving money in the long run. 

Should you use a HELOC for home improvements?

Although HELOCs are very popular financing tools with lots of different uses, using them for home improvements is an especially smart move. You can match your loan amount to your borrowing needs, even if that number changes over time. In addition, you won’t pay any interest unless you actually do borrow funds, and even if you do, there’s a good chance you can deduct that cost from your taxes. 

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Finally, another major reason is simply because home improvements add value to your home, making the concept of using your home as collateral less threatening than if you used those funds for, say, a lengthy round-the-world trip. 

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However, make sure that you’re in a secure financial position so you know you can afford the payments with ease. You may also want to consider other options if you plan to sell your home soon unless you’re confident that you can recoup the cost with a higher home sales price. If you are looking for a HELOC alternative with no monthly payments, no income requirements, and no need for perfect credit, consider an HEI from Point. 

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