3 Smart Ways to Use Home Equity (and 3 Ways You Shouldn’t)

Once you’ve paid off your mortgage, one of the first things we recommend is applying for a home equity line of credit. That’s because working smarter, not harder, means putting your assets to work for you, and one of the most practical tools available to homeowners is a Home Equity Line of Credit, or HELOC. The point is to give yourself future choices.

Here’s why a HELOC can be a good financial buffer, when to use it, and when not to.

Why a HELOC?

The whole point of a HELOC is flexibility. When you only have one source of funds available and an emergency or urgent need presents itself, you’re stuck with just that one choice. But when you have a home equity line in place, you have options. 

Let’s say a major home expense comes up. If your only choices are using your credit card or pulling from a tax-deferred IRA or 401(k), you’re stuck choosing between high interest rates and a tax trigger. And what if the market is down? Even if you have after-tax investments, you may have to sell at a loss just to cover an emergency. Now, let’s say you have a HELOC in place. Yes, tapping into a home equity line means paying interest, so it’s not always the ideal choice, but depending on the situation, it might be the best option. Having a home equity line of credit gives you the advantage of choice, so you can make the best decision for you.

When Should You Use a HELOC?

Think of it this way: a HELOC lets you use your house to pay for your house, which can be especially handy for home-related costs or investments:

1. When you have an emergency home expense. Imagine a storm rolls through your neighborhood and a tree falls on your roof. You need to hire a contractor ASAP, but your insurance check hasn’t arrived yet. A home equity line lets you write that check, get the work started right away, and limit further damage (not to mention, it’s much nicer than living with a tarp over your roof for a few months). Once the insurance payment comes through, you can use those funds to pay back the HELOC.

2. When you’re making planned renovations. Thinking about redoing your kitchen, adding a first-floor primary bedroom, or expanding your garage? Using a home equity line for planned home improvements might be a smart approach. Additionally, HELOC rates can be lower than personal loans and significantly lower than credit card interest rates. 

3. When you’re prepping your house to sell. If you’re planning to sell your home and need help with a deposit or down payment on your next place, a HELOC may be able to bridge that gap. Then, when your current home sells, you pay off the line of credit. It’s a short-term, strategic use that can keep your transition moving smoothly, especially if most of your cash is tied up in assets.

When is a HELOC the Wrong Tool?

1. When your home is already listed for sale. While a home equity line of credit can help you pay for improvements before listing your house, it’s important to remember that a HELOC is not an in-the-moment solution. Lenders generally won’t approve a new home equity line on a property that’s already on the market, so this is a tool that only works if you’ve had it in place ahead of time. Set it up before you need it!

2. When you’re funding college. As pricey as student loans can be these days, they could have a smaller impact on your credit score compared to drawing on a HELOC. If you want to help your kids or grandkids with education expenses, learn about the benefits of a 529 plan here.

3. When you’re starting or investing in a business. Using home equity to invest in a business venture isn’t a risk worth taking. You don’t want to put the roof over your head on the line for something that may not work out; not to mention it breaks the cardinal rule of business: don’t mix personal and business finances. Your home is your most fundamental financial asset, and no business opportunity is worth that trade-off.

What If Your Mortgage Isn’t Paid Off Yet?

We recommend setting up a HELOC after paying off your mortgage, but if you’re still making payments, that doesn’t mean it’s completely off the table. Lenders typically allow homeowners to borrow against the equity they’ve already built, possibly up to 80% of your home’s value minus what you still owe. So if you’ve owned your home for a number of years and have meaningful equity, a HELOC could still be a financial option for you.

The same smart-use scenarios apply: emergency home repairs, planned renovations, and bridging a real estate transition can all be reasonable reasons to tap a HELOC before the mortgage is fully paid off. However, keep in mind that carrying both a mortgage and a HELOC simultaneously means managing two forms of debt against the same asset, so the planning piece becomes even more important. Your monthly obligations and overall debt load need to be part of the calculation before moving forward. A financial advisor can help you evaluate whether the timing and the terms make sense for your specific situation.

Most Importantly, Have a Plan

A HELOC is a handy asset to have in your back pocket in case you need it, but it’s important to use it for the right reasons. And, even more important than that, being Smart About Money™ means treating it like any other form of debt: before you use it, have a clear plan to pay it off. That means knowing the amount of interest that will accrue, understanding the full amount you’ll pay over time, and ensuring that number fits into your budget before you sign anything. Otherwise, no matter how good the rates are, a HELOC is just bad debt. Avoiding bad debt is a key habit for building wealth.