Owning a home is more than just having a place to live. It’s a financial resource you can tap into when you need it. Whether you’re planning a big renovation, looking to consolidate debt, or just need some extra cash for unexpected expenses, your home’s equity can help.
But with so many options, how do you know which one to choose?
Let’s simplify it.
You’ve got three main choices: Personal Line of Credit (PLOC), Home Equity Loan (HEL), and Home Equity Line of Credit (HELOC). They might sound similar, but each one has its own strengths and weaknesses. It all depends on what you need right now.
At EveryRate, we’re here to make this decision easier. We’ve created this guide to help you navigate these options with confidence. We’ll break down each one, compare their key features, and show you how to pick the best fit for your situation.
Whether you’re just starting to build your financial future or you’ve been a homeowner for years, this guide will give you the clarity you need. Ready to make the most of your home’s value? Let’s dive in and find the right option for you.
Understanding the Basics
| Financial Option | Best For |
|---|---|
| Personal Line of Credit (PLOC) | Best for flexibility and those without home equity. Ideal for short-term needs or as an emergency fund. |
| Home Equity Loan (HEL) | Best for large, one-time expenses with a fixed amount. Offers predictable payments and potentially lower interest rates. |
| Home Equity Line of Credit (HELOC) | Best for ongoing or unpredictable expenses. Provides flexible borrowing with typically lower interest rates than PLOCs. |
1. Personal Line of Credit (PLOC)
A personal line of credit is a flexible borrowing option similar to a credit card. It's a type of revolving credit that allows you to borrow money from a financial institution up to a predetermined limit. Personal lines of credit are generally unsecured, meaning you don't need to provide collateral, such as your home or car, to secure the loan.
Since the lender does not need to appraise any collateral, setup fees are usually next to nothing. This makes a personal line of credit ideal for smaller, flexible expenses where you may need quick and easy access to funds without the complexity of securing the loan.
Key Features:
- Credit limits can range from $5,000 to $75,000.
- Interest rates are usually a few percentage points higher than a bank's prime rate.
- Ongoing repayment terms with no set end date.
- Funds can be drawn, paid off, and withdrawn again continuously.
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2. Home Equity Loan (HEL)
A home equity loan, sometimes called a second mortgage, is a fixed-term loan that allows you to borrow against the equity you've built in your home. You receive a lump sum of cash that you pay back in installments. Since it's collateralized by your home, you'll generally receive a lower interest rate than a PLOC, but you'll have the least flexibility with a HEL.
Key Features:
- Borrow up to 80% of your home's value, minus any balance remaining on your first mortgage (loan-to-value varies by lender).
- Interest rates typically range from 10% to 15%, depending on the lender and borrower's credit profile.
- Fixed repayment terms are usually between five and 30 years.
- Secured by your home as collateral, meaning that if you stop paying your loan, the lender can take your house to repay your debt.
- Average fees are two percent to five percent of the total loan value.
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3. Home Equity Line of Credit (HELOC)
A Home Equity Line of Credit (HELOC) is a revolving credit line secured by your home that allows you to borrow against your home's equity. What makes a HELOC unique is its draw perioda specific timeframe, usually lasting 10 years, during which you can borrow money as needed, up to your approved credit limit.
During this draw period, you often have the option to make interest-only payments on the amount you've borrowed, keeping your monthly payments relatively low. After the draw period ends, the HELOC transitions into the repayment period, where you'll begin repaying both the principal and interest, usually over a term of 10 to 20 years.
Key Features:
- Credit limits up to 65% of your home's appraised value if you borrow from a federally regulated financial institution, such as a bank. However, if your lender combines your HELOC limit with the remaining balance on your mortgage, you can sometimes reach up to 85% of your home's value.
- Variable interest rates, which are typically lower than unsecured loans.
- Access to revolving credit.
- Draw period (typically three to 10 years) followed by a repayment period (typically up to 20 years).
- Secured by your home as collateral.
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Key Differences Between HELOCs and Home Equity Loans
While both HELOCs and home equity loans allow you to borrow against your home's equity, there are some crucial differences. The big picture is that a HELOC is more flexible, whereas a home equity loan is more predictable.
- Disbursement: A home equity loan provides a one-time lump sum, while a HELOC allows you to draw funds as needed.
- Repayment: Home equity loans typically have fixed repayment terms with set monthly payments. HELOCs often have a draw period with interest-only payments, followed by a repayment period.
- Interest rates: Home equity loans usually have fixed interest rates, while HELOCs typically have variable rates.
- Flexibility: HELOCs offer more flexibility in borrowing and repayment, while home equity loans provide more structure and predictability.
How to Choose the Right Option for You
Consider these factors when deciding between a PLOC, home equity loan, or HELOC:
- Your home ownership status: If you don't own a home, or have sufficient equity in your home, a PLOC might be your only option.
- Purpose of the loan: For one-time large expenses, a home equity loan might be best. For ongoing or unpredictable expenses, a HELOC or PLOC could be more suitable as they have more flexibility.
- Your credit score: Your credit score affects whether you can qualify for a credit or loan product, as well as the interest rate you're offered. Generally, secured options like HELOCs or home equity loans may offer better rates for those with less-than-perfect credit since the lender has collateral.
- Interest rates and fees: Whether a loan or credit product charges fixed or variable interest determines how much you'll pay overall. Also consider the cost of any additional fees on top of your interest, reflected in your APR—the total borrowing cost.
- Your comfort with risk: If you aren't able to pay a loan that uses your home as collateral, you will lose it. Is that a risk you're willing to accept? You may want to consider other options if you're worried about your ability to repay in the future.
- Repayment terms: Think about whether you prefer making predictable payments or having more flexibility on when you pay.
Scenarios for Choosing a Personal Line of Credit (PLOC)
Short-term Needs: PLOCs are excellent for temporary or fluctuating expenses. They provide the flexibility to borrow only what you need, when you need it, without committing to a lump sum loan. This makes them ideal for situations where your financial needs may vary from month to month. For instance, if you're self-employed or have irregular income, a PLOC can help smooth out cash flow during leaner periods.
Emergency Fund: A PLOC can serve as a backup emergency fund, offering quick access to funds for unforeseen expenses. This can be particularly useful when you need immediate cash but don't want to deplete your savings or liquidate investments. Unlike a traditional emergency fund in a savings account, you don't tie up your money you only borrow (and pay interest on) what you actually use.
Example Scenario
Sarah, a freelance graphic designer, often experiences fluctuating income. She opens a PLOC with a $20,000 limit to help manage her cash flow during slower months. When a big client payment is delayed by two months, she draws $5,000 from her PLOC to cover her monthly expenses, including rent, utilities, and groceries. Once the client pays, she immediately repays the borrowed amount, minimizing her interest charges.
A few months later, Sarah's computer crashes unexpectedly. She needs a new one quickly to meet client deadlines but hasn't saved enough for the $3,000 replacement. She uses her PLOC to purchase the new computer, knowing she can repay it over the next few months as she completes her current projects. This flexibility allows Sarah to maintain her financial stability and business operations without the need for a larger, long-term loan or the stress of depleting her savings.
Scenarios for Choosing a Home Equity Loan (HEL)
Large, Fixed Expenses: Home equity loans are suitable for significant, one-time expenses where you know the exact amount you need. They're particularly useful for major home renovations, debt consolidation, or funding your child's education. Because you receive the entire loan amount upfront and have a fixed repayment schedule, HELs work well when you have a clear budget and timeline for your expenses.
Lower Interest Rates: If you want to lock in a lower, fixed interest rate, a home equity loan can be preferable compared to a HELOC or personal line of credit. This is especially true if you're consolidating high-interest debt or if you prefer the predictability of fixed monthly payments. HELs often offer lower rates than personal loans or credit cards because they're secured by your home, making them a cost-effective option for large expenses.
Example Scenario
John and Maria decide to renovate their kitchen, with a contractor's estimate of $50,000. They have $100,000 in home equity and qualify for a home equity loan at 5.5% fixed interest rate for 15 years. This allows them to fund the entire project upfront and budget for fixed monthly payments of about $458 (not including taxes and insurance).
They prefer this option over a HELOC because they know the exact cost of their project and want the security of a fixed interest rate. The lower interest rate of the HEL also makes it a better choice than using credit cards or a personal loan to fund the renovation.
John and Maria plan to stay in their home long-term, so they're comfortable using their home equity. They also consult with a tax professional who advises them that they may be able to deduct the interest on their taxes since the loan is being used for substantial home improvements. On top of the tax benefits, the renovations could increase their home's value by more than the cost of the debt, making the investment even more worthwhile in the long run.
Scenarios for Choosing a Home Equity Line of Credit (HELOC)
Ongoing or Unpredictable Expenses: HELOCs are ideal for projects where funding needs may vary over time. This could include multi-phase home renovations, funding a start-up business, or covering education expenses over several years.
Flexible Borrowing: HELOCs benefit those who prefer to borrow as needed rather than taking a lump sum. This can be advantageous if you're unsure of the total amount you'll need or if you want to minimize interest by only borrowing what's necessary. The revolving nature of a HELOC means you can borrow, repay, and borrow again within your credit limit during the draw period.
Example Scenario
Tim and Mary are planning a series of home improvements over the next few years, including a bathroom remodel, new windows, and a deck addition. They're unsure of the exact costs and timeline for each project. They opt for a $100,000 HELOC with a 10-year draw period and a variable interest rate starting at 4.5%.
They start with the bathroom remodel, drawing $30,000. During the renovation, they discover some plumbing issues that increase the cost to $35,000. The flexibility of the HELOC allows them to easily borrow the additional $5,000 without applying for a new loan.
Six months later, they decided to replace their windows, drawing another $20,000. They've been making interest-only payments since they took out money for the bathroom, but now decide to start paying into the principal to reduce their overall debt.
Two years into the HELOC, Tim and Mary have paid down some of their balance, and interest rates have dropped. Because their HELOC rate adjusts with the market (variable rate), they're able to take advantage of the lower rates for their deck project without refinancing.
This HELOC strategy allows the Thompsons to access funds as needed for each project, paying interest only on the amount borrowed. If they complete a project and have funds left over, they can pay down their current HELOC balance, which frees up their $100,000 balance limit for their next project.
Final Thoughts
Choosing between a PLOC, HEL, or HELOC is a significant financial decision that should align with your current needs, future goals, and overall financial health. It is important to carefully evaluate your financial situation, considering factors such as your credit score, income stability, and risk tolerance. Also, consider current market conditions, including interest rates and home prices.
- Personal line of credits (PLOCs) offer flexibility and no collateral requirement but come with higher interest rates. They're ideal for short-term needs or as an emergency fund.
- Home equity loans (HELs) provide a lump sum with fixed interest rates and predictable payments, making them suitable for large, one-time expenses. However, they use your home as collateral and have less flexibility.
- Home equity line of credits (HELOCs) offer flexible borrowing with typically lower interest rates than PLOCs, but rates are variable, and your home is used as collateral. They're best for ongoing or unpredictable expenses.
It's often beneficial to consult with a financial advisor or credit counsellor who can provide personalized advice based on your situation. They can help you navigate the complexities of each option and ensure you're making a decision that supports your long-term financial well-being.
Lastly, whichever option you choose, make sure you have a clear plan for using and repaying the funds. Responsible borrowing and timely repayment will help you maintain your financial health and potentially improve your credit score over time.
FAQs
What's the main difference between a HELOC and a home equity loan? - A HELOC offers flexible, revolving credit with variable rates, while a home equity loan provides a lump sum with fixed rates and payments. A HELOC is more flexible, and a home equity loan is more predictable.
Can I get a PLOC if I don't own a home? - Yes, PLOCs are typically unsecured and don't require home ownership, making them accessible to renters or those without home equity.
Which option is best for a one-time, large expense? - A home equity loan is often best for a single, large expense due to its fixed rate and lump-sum payout.
How does my credit score affect my choice between these options? - A higher credit score generally qualifies you for better rates on all options, but secured loans (HELOCs and HELs) may offer lower rates even with less-than-perfect credit.
