When you’re looking for financing, you’ll find options to fit almost any situation or goal. Two popular options are personal loans and home equity lines of credit (HELOCs). Personal loans are usually unsecured and come with fixed interest rates, whereas HELOCs typically have variable interest rates and are secured by your home.
Quick snapshot: 8 ways personal loans and HELOCs differ
Personal loan
HELOC
Is collateral required?
Depends on whether you choose a secured or unsecured loan
Uses your home’s equity as collateral
Access to funds
A lump sum is direct-deposited to your bank account from the lender
Approved funds can be taken as needed during the draw period — may be subject to a minimum draw amount
Interest rate
Fixed rate or variable rate, depending on the lender
Variable rate, though some lenders allow you to lock in a fixed rate for repayment
Repayment terms
Equal monthly installments, including principal and interest over a specified time
Interest-only payments until the draw period is complete, followed by full payments for the remaining balance
Fees
May charge an origination fee
May charge a prepayment fee for paying off your loan early
May require an appraisal fee, an application fee and annual maintenance fees
May charge a prepayment fee for paying off your loan early
Loan terms
Typically 2- to 7-year terms, depending on the lender
Typically a 10-year draw period, followed by a 20-year repayment period, depending on the lender
Loan amounts
Typically no more than $100,000
Usually up to 80% to 85% of your home’s equity
Typical requirements
Good credit, low debt-to-income ratio, regular income
At least 20% in equity, a loan-to-value ratio of 85% or less, good credit, steady income
Pro tip: When comparing HELOCs, pay extra attention to the margin — the amount added to the prime rate to create your interest rate. Ask what the margin is during the draw period and the repayment period, as sometimes lenders will have a higher margin during the repayment period, which could cost you much more in the long run.
A personal loan allows you to borrow a lump sum in exchange for repaying the loan in equal monthly installments. Personal loans are usually unsecured (but can be secured) and typically come with fixed interest rates — although some lenders may charge variable rates.
Pros
Lump sum payment. You receive the money in one lump sum, which you can typically use however you want.
No collateral required. You won’t need to secure your personal loan with assets like your home or car.
Quick application process. A typical personal loan requires far less paperwork and time than a HELOC.
Fast turnaround time. Depending on your lender and your preparedness, you could receive your loan funds in just a few days.
Fixed repayments. Equal monthly payments can be easier to budget for.
Cons
Higher interest rates. Because personal loans are usually unsecured, interest rates are typically higher than with secured loans.
Lower loan amounts. While maximum loan amounts vary by lender, you usually can’t borrow as much money with an unsecured personal loan.
Need good credit. If your credit isn’t very good, you may not qualify for the loan or you may have to put up collateral to secure the loan.
Fees. Personal loans may come with origination or processing fees and prepayment penalties for late payment fees — which can all add to the loan’s total cost.
What is a HELOC and how does it work?
A home equity line of credit (HELOC) gives you access to a revolving line of credit similar to a credit card. It uses your home as collateral for the loan and most commonly comes with a variable interest rate.
You can draw on the line of credit as often as you like up to the borrowing limit and within the draw period, which is usually 10 years. You’ll only be required to make interest payments during the draw period. Once the draw period is up, you’ll need to make principal and interest payments for the remainder of the loan term.
Pros
Only borrow what you need. Because you have access to a revolving credit line, you can borrow as much or as little as you need up to your borrowing limit.
Flexible repayments. You’re only required to make interest payments during the draw period, but you can always pay more than the minimum to save money down the road.
May be able to deduct interest. If you’re using the HELOC funds to make home improvements, you may be able to deduct your interest payments on your tax return.
Longer loan terms. With a draw period of 10 years and a typical repayment term of 20 years, you have a lot longer to repay your HELOC than you would with a personal loan.
Cons
Long application process. There’s a lot more paperwork and hoops to jump through when establishing your home’s equity and applying for a HELOC.
Unpredictable payments. HELOCs usually come with variable interest rates so your monthly payments may fluctuate over time, which can make budgeting more difficult.
More fees than personal loans. HELOCs can require an appraisal fee, an application fee and annual maintenance fees over the loan term.
Home at risk. HELOCs use your house as collateral, so if you can’t make your payments and default on the loan, you could lose your home.
When to choose a personal loan vs. home equity line of credit
Deciding between a personal loan and a home equity line of credit may be a tough decision, but there are a few reasons why a personal loan might make more sense.
Lack of equity. If you don’t have enough equity in your home, you may not be able to qualify for a HELOC.
You need quick funding. If you need money soon, a personal loan is much faster to qualify for than a HELOC.
Don’t need as much money. If you only need a relatively small loan amount, a personal loan may make more sense than a HELOC.
Don’t want to risk home. If you’re worried about the risk of using your house as collateral, a personal loan may be a safer choice.
When to choose a home equity line of credit vs. a personal loan
On the other hand, there are many reasons why a HELOC may be a better fit for you and your financial goals.
You have a lot of equity. If you have a lot of equity in your home (or better yet, it’s paid off), getting a HELOC over a personal loan may make more sense.
You want to make home improvements. If your loan purpose is to make improvements on your house (thereby increasing its value), a HELOC could be a smart move. Plus, you may be able to deduct your interest payments from your taxes.
You don’t need a lump sum. If you don’t need the entire loan amount up front and prefer to borrow only as much as you need when you need it, a line of credit might be a better choice.
You want a longer loan term. If you plan to borrow a significant sum and want more time to repay, a HELOC has a longer loan term.
Alternatives to HELOCs and personal loans
After researching, you may decide that neither a personal loan nor a HELOC is the right choice. Consider these alternatives instead.
Cash-out refinance. A cash-out refinance is when you swap out your existing mortgage for a new loan that’s more than your existing loan balance and receive the difference — your home’s equity — in cash.
Home equity loan. A home equity loan is similar to a HELOC in that you borrow against your home’s equity, but the loan proceeds come in a lump sum payment rather than a revolving line of credit.
0% credit cards. Depending on the amount you want to borrow, applying for a credit card with a 0% introductory period might be a good idea if you can repay the money before the introductory period ends.
Business loan. If you intend to use your loan proceeds to start a company or grow your existing business, consider a small business loan instead. Or, if you can meet the stricter requirements, an SBA loan could get you a better interest rate.
When deciding between a personal loan or a HELOC, consider how much you want to borrow, the purpose of the loan, how much equity you have, how you want to repay it and your personal finance situation. Whichever you decide, be sure to do your research, compare multiple lenders and consider alternative forms of funding.
Whether there is a better option than a HELOC depends on your unique financial situation. For example, some things to consider are whether you want to risk losing your home as collateral or if you have unexpected expenses you need to pay for soon.
Is a HELOC cheaper than a personal loan?
Because a HELOC uses your home as collateral, you can usually get a better interest rate than a personal loan. However, you need to consider the fees and term length of each to determine which is less expensive in the long run. If you’re unsure, talk to a loan officer to help you run the numbers.
What happens if I can’t repay my loan?
That depends on the type of loan you have. For example, if you have an unsecured personal loan, the bank cannot seize your assets to repay the loan. But they can cause serious damage to your credit profile and take you to court for repayment. If you default on a HELOC, which is essentially a second mortgage, the lender can take your home and resell it to pay your debt.
Lacey Stark is a freelance personal finance writer for Finder, specializing
in banking, loans, investing, estate planning, and more. She has 20
years of experience writing and editing for magazines, newspapers, and
online publications. A word nerd from childhood, Lacey officially got her
start reporting on live sporting events and moved on to cover topics
such as construction, technology, and travel before finding her niche in
personal finance. Originally from New England, she received her
bachelor’s degree from the University of Denver and completed a
postgraduate journalism program at Metropolitan State University also
in Denver. She currently lives in Chicagoland with her dog Chunk and
likes to read and play golf. See full bio
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