What Is a HELOC and How Does It Work?
A home equity line of credit is the easiest way to turn home equity into spendable cash without refinancing your first mortgage. It’s also the easiest way to talk yourself into a six-figure variable-rate debt that grows for ten years and starts demanding full amortization right when you weren’t paying attention. Here’s how a HELOC actually works, what the “draw period” and “repayment period” really mean, and the math behind a typical line.
The structure
A HELOC is a second-lien loan secured by your home, structured as a revolving credit line rather than a lump sum. You’re approved for a maximum credit limit, and you can draw any amount up to that limit, repay it, and re-borrow — much like a credit card. The interest rate is almost always variable, tied to the U.S. prime rate plus or minus a margin set at origination.
Every HELOC has two phases:
- Draw period. Typically 10 years. You can borrow up to your line limit, repay, and re-borrow. Most HELOCs only require interest-only payments during this phase.
- Repayment period. Typically 20 years. The line freezes — no more draws — and your balance amortizes over the remaining term. Payments often jump 50–100% at this transition.
The combined product is usually written as 10/20 — 10-year draw, 20-year repayment, 30-year total life. Some lenders offer 5/15 or 5/25 variants.
How much you can borrow
Most lenders cap a HELOC at 85% combined loan-to-value (CLTV), counting your first mortgage and the HELOC together. A few will go to 90%, and some specialty lenders to 95%, with higher rates.
Worked example. Home value $600,000, first mortgage balance $350,000:
| Step | Calculation | Amount |
|---|---|---|
| Maximum allowed at 85% CLTV | $600,000 × 0.85 | $510,000 |
| Less: existing first mortgage | $510,000 − $350,000 | $160,000 |
| Maximum HELOC limit | $160,000 |
At 90% CLTV the limit becomes $190,000; at 80% CLTV (the most conservative lenders) it’s $130,000. Your actual approved limit also depends on income and credit.
The interest rate math
The HELOC rate equals U.S. prime + or − margin. With prime at 7.50% in May 2026 and a typical margin of +0% (some relationship-discount lenders go to −0.25%, weaker-credit borrowers see +1% or more), most HELOCs price at 7.50%–8.50%.
Two important features of the rate:
- Resets monthly. Most HELOCs adjust on the first day of each billing cycle. If the Fed raises rates by 0.50%, your HELOC payment goes up the next month.
- Lifetime cap of ~18%. Required by federal regulation. Useful only as a worst-case ceiling.
Some lenders offer a fixed-rate lock option — you can convert any draw to a fixed-rate, fixed-payment installment within the line. Useful if you take a one-time $80,000 draw for a kitchen and want to lock the cost at today’s rate. Read the fine print: locked portions usually still count against your line limit, and many lenders charge a $50–$150 fee per lock.
Worked example: a $100,000 draw across the life of the line
A homeowner takes a $200,000 HELOC, draws $100,000 in year 1 to renovate a kitchen and pay off a 22% APR credit card balance, and makes interest-only payments through the 10-year draw period.
| Phase | Balance | Rate | Monthly payment |
|---|---|---|---|
| Year 1, interest-only | $100,000 | 8.00% | $667 |
| Year 5, rate rose to 9.00% | $100,000 | 9.00% | $750 |
| Year 11, repayment begins (20-year amortization) | $100,000 | 9.00% | $900 |
| Year 11, alternate 7.00% rate scenario | $100,000 | 7.00% | $775 |
Two important takeaways. First, the year-11 jump from $750 to $900 is real. The principal payments that disappeared during the draw period now have to fit into 20 years instead of 30. Second, if rates fall during the draw period, your interest-only payment drops too — but the longer you defer principal, the steeper the repayment cliff becomes.
HELOC vs cash-out refinance
These are the two main ways to tap home equity. They serve different purposes:
| HELOC | Cash-out refinance | |
|---|---|---|
| Touches first mortgage | No — second lien | Yes — replaces it |
| Rate | Variable (prime ± margin) | Fixed (typically) |
| Closing costs | $0–$1,500 | 2%–4% of loan amount |
| Best for | Phased projects, emergency liquidity, short-term needs | Lump-sum need + locking in a lower rate on the whole mortgage |
| Risk | Rate climbs, repayment shock at year 11 | Larger first mortgage at potentially higher rate |
If your existing first mortgage is locked at a low rate (say, 3.5% from 2021), almost never cash-out refinance — you’d lose the rate advantage on the entire balance to access a fraction of it. A HELOC keeps your first mortgage untouched and only adds variable-rate cost on the equity you actually use.
Tax treatment
HELOC interest is tax-deductible if and only if the proceeds are used to buy, build, or substantially improve the home that secures the line. This is the post-2018 rule from the Tax Cuts and Jobs Act and remains in force in 2026.
Practical implications:
- $80,000 used to remodel a kitchen → interest is deductible (subject to overall mortgage interest cap)
- $50,000 used to pay off a credit card → interest is not deductible
- $30,000 used to fund tuition → not deductible
- $60,000 used to buy a rental property → deductible only against the rental income
If you use the HELOC for mixed purposes, keep careful records. The IRS expects you to apportion the interest based on actual use.
The four scenarios where a HELOC makes sense
- Home renovation paid in stages. A kitchen remodel that draws $20K, $30K, and $25K over six months pays interest only on the cumulative balance. A lump-sum loan would accrue interest on the full $75K from day one.
- High-cost debt consolidation, with discipline. Replacing 22% credit card debt with 8% HELOC debt is good math — provided you don’t run the cards back up. The failure mode is real: 60%+ of debt-consolidators re-borrow on the credit cards within 2 years.
- Emergency liquidity reserve. Opening a HELOC while you’re employed and the home appraises high, then not drawing on it, costs $0–$50/year in inactivity fees and gives you a $200K cushion if a major expense or job loss hits.
- Bridge financing for the next home. Drawing on a HELOC to fund the down payment for the next house, then paying it off when the current home sells, can let you avoid a contingent offer.
The three scenarios where a HELOC is a trap
- Funding a depreciating asset. Cars, RVs, boats. The interest isn’t deductible, the asset loses value, and the home is collateral.
- Trying to time the market. Borrowing against the home to invest in stocks or speculate is functionally margin debt secured by your house. The downside is the same as margin: a market drop and a payment increase at the same time.
- Replacing income during unemployment. Tempting and very dangerous. You’re adding fixed monthly debt obligations during the worst possible period to take them on.
Closing the line
HELOCs typically have $0 in closing costs because the lender is betting on a long relationship and rate-spread profits. The catch is that many include a 3-year prepayment-and-close clause — close the line in the first 3 years and you owe the closing costs the lender absorbed (typically $400–$1,200). Read the commitment letter for this.
Inactivity fees are common: $50 per year if you carry a $0 balance for 12 months. Annual fees of $50–$75 also show up on many lines.
Bottom line
A HELOC is a flexible, low-friction tool for homeowners with meaningful equity who want to draw on it for a specific, appreciating purpose. The two failure modes are using it like a savings account (because the variable rate compounds against you) and forgetting about the year-11 amortization cliff. Set a repayment target the day you take the first draw, and treat the line as a loan with a deadline rather than indefinite credit.
See your real payment
Want to model your HELOC alongside your existing mortgage to see the combined monthly cost? Run the numbers in our mortgage calculator with the HELOC as a separate line — both interest-only during the draw and amortizing in the repayment period.
Considering whether to use a HELOC versus refinancing the entire mortgage to access cash? Read our walkthrough of when refinancing actually makes sense.