Should You Use a HELOC to Pay Off Debt or Renovate?

A Home Equity Line of Credit (HELOC) is one of the most flexible revolving lines of credit available to homeowners. Whether you’re looking to consolidate credit card debt, cover unexpected expenses, or invest in major home improvements, a HELOC allows you to tap into your available credit based on your home equity. But with variable interest rates, draw periods, and multiple repayment strategies to consider, how do you know if it’s the right financial move?

In this article, we’ll explain how a line of credit HELOC works, break down key terms like repayment period and interest-only payments, and explore how you can use a HELOC for just about anything—from education expenses to medical bills. You’ll walk away with insights to determine if a HELOC fits your personal finance goals and how to maximize your HELOC funds wisely.

 

Understanding the Basics: Key Terms for HELOCs

Before you start comparing HELOC lenders or calculating your potential credit limit, it’s important to get familiar with the foundational terms. These concepts will help you navigate your HELOC account with confidence.

HELOC (Home Equity Line of Credit)

A HELOC is a revolving credit line that allows you to borrow against the equity in your home. Unlike a home equity loan, which provides a lump sum, a HELOC gives you ongoing access to funds similar to a credit card during the draw period. You can use this line of credit HELOC for just about anything, from auto loans to education expenses or everyday expenses.

Loan-to-Value (LTV) Ratio

Your LTV ratio compares your current mortgage balance to the appraised value of your home. Lenders typically allow a HELOC if your debt to income ratio and LTV meet specific guidelines, often keeping your total LTV under 80% to avoid risk.

Equity

Equity is the difference between your home’s market value and what you owe on your current mortgage. The more equity you have, the more available credit you may be eligible for through a HELOC.

Overleveraging

Overleveraging occurs when you borrow too much of your available equity. If you’re not careful with your monthly payments or if interest rates rise, you may struggle to repay your HELOC loan especially if you’re making interest only payments during the draw period. This risk can jeopardize your primary residence, so understanding your limits is essential.

Important Factors to Consider for a HELOC

1. Avoid Overleveraging Your Home

While a HELOC gives you flexible access to available credit, it’s crucial not to treat it like “free money.” Borrowing too much can lead to outstanding balances that are difficult to manage especially if variable interest rates increase during your repayment period.

Lenders typically prefer your loan-to-value ratio to stay under 80%, and your debt to income ratio to remain within a safe range. Exceeding these can put your primary residence at risk. Always consider how your monthly payments will fit into your monthly bills, especially during financial downturns.

2. Analyze Your Financial Habits

Using a HELOC to pay off debt, such as credit card balances, auto loans, or student loans, can help you save money by securing a lower interest rate but only if your spending habits are under control.

If you’re replacing high-interest personal loans or credit card debt, be cautious not to rack up new debt while carrying HELOC debt. The flexibility of a HELOC can become a trap if you’re only making interest-only payments or relying on minimum payments without reducing the principal.

Talk with a tax advisor or a personal finance expert if you’re unsure how this strategy might impact your long-term goals. In some cases, consolidating debt with a HELOC can offer clarity and breathing room but only with a clear repayment strategy.

Using HELOC for Home Improvements

A HELOC can be an excellent tool for making necessary updates or improvements to your home. Borrowing against your equity to fund projects like replacing a roof, upgrading windows, or remodeling a kitchen can not only enhance your quality of life but also increase your property’s value.

These types of improvements are often considered a balance sheet exchange. For example, if you borrow $20,000 to improve your home and the upgrades increase its value by the same amount, your net worth remains stable. This approach ensures that borrowing doesn’t negatively impact your financial health while also providing a better living environment.

Additionally, home improvements often serve as preventative maintenance. Addressing issues like old windows or an aging HVAC system can save you from more costly repairs in the future. When deciding on a HELOC for home improvements, prioritize projects that are essential to maintaining the home’s value and functionality.

Home Improvements That Might Not Be a Good Investment

While a HELOC can be used for just about anything, that doesn’t mean every project is financially wise. Some home improvements simply don’t provide a strong return, especially when you factor in closing costs, annual fees, or the impact of variable HELOC interest rates.

Projects to Rethink

Take, for example, adding a luxury pool or high-end entertainment room. While these upgrades can bring joy, they often add minimal value to your appraised value. In fact, some may hurt resale appeal depending on the local market. Spending your HELOC funds on these projects may increase your monthly payments without contributing meaningfully to your net worth.

Likewise, using your line of credit HELOC for short-term aesthetic changes, like luxury wallpaper, ultra-specific tiling, or seasonal landscaping, can stretch your finances for minimal gain.

Think Beyond the Numbers

That said, personal finance is just that—personal. If a renovation will significantly improve your quality of life and you’re confident in your ability to repay the HELOC during both the draw period and repayment period, then it might still be worth considering.

Just be sure your credit limit remains manageable and that you’re not jeopardizing your available credit or taking on heloc debt that could interfere with more pressing financial needs like unexpected expenses, medical bills, or education expenses.

Making the Most of Your Home Equity

Using a HELOC to pay off debt or finance home improvements can be a smart financial move when approached with care. Be sure to understand how HELOC rates, especially those tied to the prime rate, can affect your long-term costs. Some borrowers are surprised to learn they may initially pay interest only during the draw period, followed by fixed monthly payments in the repayment phase.

To make the most of your HELOC, stay mindful of your overall financial picture, including your bank account balance and monthly obligations. The key is using funds strategically without compromising your financial stability. Before moving forward, it’s wise to work with a trusted lender who can help you compare options and understand the full scope of benefits and risks.

For expert guidance tailored to your goals, reach out to Mike Schlichte and the Absolute Real Estate team. We’ll help you make informed, confident decisions about your home equity.