Is a Home Equity Loan a Good Idea?

A home equity loan is money borrowed against the equity in your home. Your “equity” is the value of your home minus the amount you owe.

The loan amount is distributed to you in a lump sum and typically comes with a fixed interest rate. You repay the loan with a fixed monthly payment over a set period of time that can be as long as 30 years.

The appeal of this kind of loan is that it provides access to a significant amount of cash at a fixed interest rate and can be used for a variety of purposes.

Every financial decision is based on your personal situation. So, while a home equity loan may sound appealing, it should be carefully considered. You want to make a smart choice.

We’ll take a look at some of the factors that can help you make that choice.

How Home Equity Loans Work

A home equity loan, sometimes called a second mortgage, is money borrowed against the equity in your home.

To determine the equity in your home, subtract the remaining mortgage from the value of the home. For example, if your home is worth $200,000 and you owe $100,000 on your mortgage, you have $100,000 in equity in the home.

Lenders typically will limit what you can borrow to 80% of the value of your home, less your mortgage balance. In our example, you could receive up to $60,000 via a home equity loan (80% of $200,000 is $160,000 minus $100,000 owed equals $60,000).

Once you determine what you want to borrow, you must apply. The terms of your loan will determine your interest rate, and the number of years you have to repay. Payments are then made on a monthly basis.

Remember: This loan payment will be paid in addition to your mortgage, so it is vital to ensure your budget allows you to pay both loans concurrently.

When it comes to qualifying for a home equity loan, lenders typically will require that you maintain at least 20% in equity in your home. A good credit history is also important to qualify – so minimum credit scores of 660-680 are needed.

In addition, lenders will want to know your debt-to-income (DTI) ratio. It doesn’t make sense for a lender to give you a loan you cannot afford, so they will want to see a DTI of 43% or lower.

Benefits of Home Equity Loans

One of the main benefits of a home equity loan is that the interest will be lower than unsecured loans, like credit cards. Because your house is used as collateral, lenders can offer a lower rate than unsecured loans, which have no physical item to back the loan.

A home equity loan can lead to borrowing large sums of money, and you can receive that sum in one payment. This can help if, for instance, you have a significant medical bill or a home renovation you want to complete.

Interest rates are fixed, which means you know the payment each month. In addition, you are able to repay the loan for lengthy periods of time – up to 30 years. This reduces the payment due each month, though over the long haul it will increase the total interest paid.

There may also be a tax advantage if you use the money for home improvements. In this case, interest may be tax-deductible.

Finally, while qualifying for a home equity loan may be stringent, it’s not as difficult as borrowing money that is not collateralized.

Risks and Drawbacks

The biggest benefit of the home equity loan also brings the biggest risk: Because your home is used as collateral, if you default on the loan, the lender may foreclose on your house.

This is the worst possible ending, so before taking the loan, be absolutely sure you can repay it with on-time, in-full payments.

Another important factor to consider is closing costs, and they range between 2%-5% of the loan. These fees pay for an appraisal, application, and title fees. A $50,000 home equity loan could cost as much as $2,500 if the closing costs are 5%.

Home equity loans involve fixed interest rates, which can’t be changed even if rates drop. Your options at that point are to appeal for a lower rate or refinance the loan. A good payment history will help your case if you appeal for a lower rate.

In addition, if home values drop, you may have what is called negative equity – meaning that the value of the home is less than the money you owe on it.

One final factor to keep in mind: If you sell the house with a mortgage and a home equity loan, both loans must be paid from the proceeds of the sale. This most often comes into play the more you borrow, but the worst-case scenario would be if you had a negative equity situation. That means the proceeds of the home sale may not cover the cost of the mortgage and home equity loan.

Alternatives to Consider

A home equity loan may work perfectly for some, but for others it’s not the ideal option. Here’s a quick look at the situations where a home equity loan makes sense, where it doesn’t, and what alternatives may be available.

HELOC

A HELOC (Home Equity Line of Credit) is an amount of credit available to use based on the equity in your home. A HELOC uses the equity and your home as collateral and allows you to take out a line of credit worth up to 85% of that equity.

As an example, if you have $50,000 in equity in your home, you can apply for a Line of Credit up to $42,500 (85% of $50,000). That amount of money is there for you when you need it. You may never use it, but if a significant expense arises it is a good way to obtain cash.

Keep in mind that most HELOCs have a variable interest rate, so the amount due may vary from payment to payment. This line of credit provides more flexibility in that the money is there to draw from, but you may never need to use it.

Cash‑Out Refinance

Refinancing your mortgage means replacing the existing mortgage with a larger loan. You then use a large portion of the funds to repay the first mortgage plus closing costs, then keep the remaining cash you have taken out. This cash is then available to use as needed.

The advantage: A refinance usually comes at a lower interest rate, so even with the extra cash out your monthly payment should decrease.

The concern: Your mortgage re-starts the day you refinance, so if you refinance with another 30-year loan you add to the number of years it takes to pay off your home.

Personal Loan

A personal loan is when you borrow money for your own personal use. There typically is no collateral for a personal loan, so interest rates will be higher than with a home equity loan.

A personal loan typically must be repaid in between one and five years, so it’s important to know what your payment will be, so you don’t overextend yourself.

Credit cards

While we all pay for items with credit cards, it’s not wise to spend more with credit cards than you can afford. That’s because average interest rates on credit cards are between 20% and 22.78%.

Charging more than you can afford to pay on a credit card is a fast way to get into a spiraling debt situation. For the interest rate only, a home equity loan makes more sense than paying excessive interest rates with a credit card.

Reverse Mortgage

This option can be appealing to those aged 62 or older. In this situation, a lump sum is given to the owner of a home based on the equity they have in their home. The loan does not have to be repaid until the last owner of the home no longer lives in the house.

It’s important to note, though, that interest and fees can be added to the loan amount each month. This means the balance repaid at death will be more than the amount borrowed. However, if it works financially, you can make payments on the loan.

The general idea with this loan is that it keeps seniors in their homes until they die or must leave it. At that point, the home can be sold, with the funds used to pay off the loan – though obviously this will limit the proceeds beneficiaries pocket from the sale.

When a Home Equity Loan Might Make Sense

Several situations exist when a home equity loan makes sense. These are situation-specific, but generally they arise when you need a lot of money for a specific expense and (this part is vital) you can afford the monthly payments to repay the loan.

Well-Defined One-Time Needs

A major home improvement can be a good use for a home equity loan, especially if that improvement increases the value of your house. Generally, kitchens and bathrooms fall into that category.

A home equity loan also could help with medical expenses or educational expenses.

Do not take a loan if the monthly payment is too much for you to handle. Adding debt to a tenuous financial situation is never a good idea.

Debt Consolidation

If your debt involves a high interest rate – think credit card debt – then using a home equity loan can be a good idea. That’s especially true if you are paying off several credit cards or have more than one high-interest rate debt.

You can solve this issue through debt consolidation. Debt consolidation involves combining several loans into one, i.e., consolidating them. With debt consolidation, you could take out one loan, pay off several others, then make monthly payments on the new loan instead of making multiple loans to multiple entities.

This makes sense because you are replacing high-interest loan(s) with a single loan at a lower interest rate. Replacing high-interest debt with a lower-rate secured loan is a logical use for a home equity loan.

Capital-Intensive Investments

You could use a home equity loan to invest money, but it should be done prudently and carefully. A capital-intensive investment means a business, purchase or investment that requires a large amount of capital.

A second home in a prosperous area could be an example of a capital-intensive investment, so too could land, an adjacent lot to your home or financing for a home that you spruce up and sell – or ‘fix and flip.’ If you have been wanting to start a business that needs initial capital, a home equity loan could provide those funds.

All investments, capital intensive or not, should be studied carefully for risk and reward. Remember: The money you are using from the loan is backed by your home.

Planned Expenses

Planned expenses are those that are required and expected. Everyone must replace their roof at a certain point; this would be a planned expense because you have to plan on spending that money. Same for an education, a necessary medical expense you know insurance will not cover or a down payment for a second home.

Care must be taken. For education, investigate student loans first. For the others, be sure you know the cost, what you are borrowing and if you can afford the monthly payment to repay the loan.

When It’s Probably Not a Good Idea

Not everyone should borrow money using a home equity loan. Financial considerations should be carefully considered before taking the loan. Remember: Your home is at risk, so study all the positives and negatives carefully before taking the loan.

Living Expenses

Yes, a home equity loan could be used for day-to-day expenses, dinners out or vacation. But the risk is significant because the loan is backed by your home.

If you default on the loan because you’re going out to eat a lot or traveling to Europe (it happens), the lender can foreclose on your home.

Rather than borrowing money for living expenses, use a budget based on your income and expenses to understand what you can afford, and where you can adjust spending to make sure you are living within your means.

Risky Investments

Yes, a home equity loan could be invested, but when your home is your collateral, it’s highly risky to “hope” for investment gains with borrowed money. Some might say it’s just not smart.

If you follow this route, choose investments with solid, safe returns. A high-yield savings account, certificate of deposit (CD), annuity or treasury securities could provide gains without great risk. Index funds or dividend stocks or corporate bonds provide moderate risks.

If your money is in savings, the closer the interest rate paid on the savings account is to the interest rate charged on the loan, the better. (That’s not a goal often easily achieved.)

Uncertain Ability to Pay

If you are not confident about keeping your job or your income is unstable (for any number of reasons), it’s best to avoid home equity loans.

Any situation that might make it difficult to repay the loan puts your home ownership at risk. And that is a risk that is not worth taking.

Mitigating the Risks

There are ways to minimize the risks involved in a home equity loan, which minimizes the chances of losing your home. Among them:

• Borrow only what you need, not the maximum available. If a medical bill is $7,000 and your available equity is $40,000, borrow the $7,000 you need to pay the bill.
• Have a repayment plan in your budget. Treat the loan like a primary mortgage that must be paid in full and on time. If you can’t afford it in your budget, ask yourself if you need to take out the loan.
• Shop around for terms, rates, and fees. We shop for cars and washing machines, so why not shop for loan?. One more point on closing costs or a half-point on interest rates can make a difference. Compare multiple lenders before signing.
• Know your credit score. The better the score, the better your chances for qualifying on good terms. But a large new debt may temporarily hurt your score. Pay attention to it before and after signing for the loan. If you pay the loan back properly, your credit score will improve.
• Consider refinancing a HELOC. If you have taken money from your HELOC and the variable rate is getting too high, consider refinancing that HELOC into an equity loan so at least your payment will be consistent.

Real-Life Context & Data

Home equity, driven by higher home prices and the fact that people are staying longer in their homes, is rising in the United States.

Equity grew by $600 billion from the previous year heading into the first quarter of 2025. The average U.S. homeowner had $313,000 in equity in their home at the end of March 2025.

That figure represents a 6% increase from March 2024. HELOC balances have increased as well. At the end of June 2025, total HELOC balances were $411 billion, $9 billion more than a year ago.

All this means that homeowners are tapping into the financial help the equity in their home can provide.

For borrowing context, consider the average interest rates for different kinds of loans:

• The average interest rate for a home equity loan in October 2025 was 8.1%-8.3%, depending on the term of the loan.
• The average personal loan rate was 12.25%, though those with excellent credit could find a personal loan with a 7% interest rate (the benefit of shopping!).
• The average HELOC rate is more aligned with the home equity rate: 8.24%. Introductory rates on HELOCs could be in the 6% range. Remember, though, that HELOC rates are typically variable so they can go up or down while you repay the loan.

Is an Equity Loan a Good Idea for You?

A home equity loan can be a smart tool, especially for planned, purposeful, high-value expenses—provided you’ve assessed your finances and ability to repay. If the additional loan fits your budget, it’s worth considering. If you can’t repay it, think long and hard.

Misuse, overspending, or poor planning can jeopardize your most valuable asset: your home.

When taking this important step, it’s always wise to talk to a financial advisor. He or she can spell out what the loan will mean to your financial status and well-being.

Compare options, shop, think, then think some more. If you decide to move forward, make sure you do it with a clear plan that ensures you can repay the loan without risk of losing your house.