When tackling projects or facing large expenses, homeowners who have built up equity in their properties often turn to a home equity line of credit (HELOC) to finance the costs. If you’ve already got a HELOC, using it can be an appropriate way to meet your goals. And depending on how you use it, there could be tax advantages, too.
HELOCs make it easy to put your home equity to work for you. And once you’ve paid down the principal, you can draw on a HELOC again.
Common uses for HELOCs include home improvements, college tuition, and emergencies. Debt consolidation can also make sense — provided you’re paying off higher-interest debt and replacing it with lower-cost debt.
HELOCs are as easy to use as credit cards — but it’s important to remember that’s not what they are. A credit card is an unsecured debt, backed by the strength of your credit rating. When you use your HELOC, however, you’re borrowing against your home. So you need to be confident in your ability to manage and repay this type of debt.
Once your HELOC has been approved, there’s technically no limit to how you can use it. Whether you should use it for just any purpose is a separate question.
“Because a home is often a consumer’s most valuable asset, many homeowners use home equity credit lines only for major items, such as education, home improvements, or medical bills, and choose not to use them for day-to-day expenses,” the Consumer Financial Protection Bureau notes in its consumer guide to HELOCs.
Financial planners frequently advise customers to consider using their HELOC to finance home improvements that will increase the home’s value.
“You may also find that a HELOC is helpful when it comes to paying for college, as long as its interest rate is lower than student loan interest,” says Michael Foguth, founder of Foguth Financial Group, a financial planning firm in Brighton, Michigan. “A HELOC can also be used for emergency expenses that you didn’t foresee. It’s important to be careful when using a HELOC for anything other than home improvements, as if you’re not diligent in paying back the HELOC, you could put your home at risk.”
On the other hand, it’s not advisable to use a HELOC if it’s going to put you in more debt that you can’t afford, Foguth says. “As an example, avoid using a HELOC on a vacation, new car/recreational vehicles, or wedding,” he explains.
Many people remember when the interest on HELOCs was fully tax-deductible. That is no longer the case. If tax-deductibility is important to you, be aware that since 2017 federal law has limited what qualifies as a home equity deduction. Interest on a home equity loan or line of credit is deductible only if the debt was used to “buy, build, or substantially improve your home,” according to IRS regulations. If you borrowed for any other reason, you can no longer deduct the interest.
People who have HELOCs tend to use them. Only 27 percent of customers with a HELOC had a zero balance at the end of 2019; 7 percent had utilized their entire available HELOC funding, and the other 66 percent were somewhere in between. On average, HELOC customers used 44 percent of their available lines of credit during 2019, according to the Mortgage Bankers Association of America.
Your home is not a piggy bank, but it is a cornerstone of your wealth. When used prudently, a HELOC can be an efficient way of tapping your built-up equity. Make sure you understand your loan, the repayment terms, the potential tax implications, and the risks.
If you’ve had your HELOC for a couple of years and are thinking about using it now, don’t hesitate to call us. We would be happy to answer your questions about how these important financial tools work.