Using a HELOC to Increase Your Home Equity

A home equity line of credit (HELOC) is one of the most popular ways for a homeowner to access their home equity. Much like a credit card, a HELOC allows you to pull out as much money as you want (up to your credit limit), over a certain period of time. You can take it out as a lump sum, or use it in small amounts as needed.

That’s why HELOCs are ideal for supporting big, recurring expenses, such as college tuition, or to cover your bills during a temporary loss of income.

But did you know that a HELOC can also be a great way to fund home improvements that could actually increase your home equity in the long run? And if you increase your home equity, down the line, you can get a credit line increase as well?

How HELOCs Actually Work

HELOCs and home equity loans are two of the most common ways that homeowners can tap the equity in their home. Once you take out a HELOC, you can access the funds for a specific period of time. Usually, this is 10 years or less.

Some HELOCs are interest-only during the period in which you can access the funds (also called a “draw” period). Others are fully amortizing from the start. When the draw period is over, the payment-only period begins, which can often last 20 years. Unlike a home equity loan, which is often a fixed-rate loan product, HELOCs almost always have an adjustable interest rate.

HELOC Interest is Tax Deductible

While interest on HELOCs used to be tax deductible, that changed after the Tax Cuts and Jobs Act of 2017. This act eliminated the tax deduction for homeowners.

Despite that, earlier this year, the IRS announced that interest on HELOCs is, in fact, tax deductible -- as long as funds from the HELOC are used to make home improvements.

So, as long as you want to use your home equity line of credit to buy, build, or substantially improve your home, you can take the HELOC interest tax deduction. However, you can’t deduct interest on personal expenses.

What Home Improvements Should I Make?

When it comes to using funds from a HELOC to make home improvements, some areas stand out far above others.

But before we talk about improving your home, let’s talk about repairing it. If you have a serious issue with your home (like a damaged or leaking roof), take care of this first. This is especially important if you’re thinking of putting your home on the market anytime in the near future. After all, shoppers won’t notice your shiny granite countertop if your entire kitchen is flooded from a roof leak.

Home Improvements with a High Return on Investment

If your home doesn’t need any major repairs, you can start thinking about improvements that are a little more exciting. However, take some time to think about the return on investment (ROI).

When it comes to getting a high ROI, kitchens and bathrooms usually take the cake. The bad news is that, on average, even these renovations may not actually bring you a profit in the long run. For example, minor kitchen renovations, which have one of the highest returns on investment, average about 92.9%, while replacing roofs or windows average closer to 80%. So, if you really want to make home improvements, do it -- just don’t expect to make a profit.

Despite that, home improvements can turn a profit in some situations, especially if you live in a hot market. No matter what, make sure that your improvements are high quality, but not excessive. 

For example, it doesn’t make much sense to purchase $50k of state-of-the art kitchen appliances (or a gold-plated toilet) in a house worth $300k. In comparison, if your home is worth $1.5 million, a $50k kitchen revamp might be just the ticket. Experts say wood or stone flooring is a good choice for kitchens. For bathrooms, large walk-in showers often trump bathtubs in terms of ROI. 

You may also want to consider adding another bathroom. This can increase your home’s value if you only have one bathroom, or if your house has far fewer bathrooms than neighboring houses. Check out Zillow or Trulia to see what features your neighbors’ houses have.

Considerations When Deciding to Use a HELOC for Home Improvements

If you want to make home improvements with a HELOC, make sure they’ve improvements you like. After all, unless you’re planning to sell your home soon, you’re the one who’ll be living with them.

Despite that, it pays to ensure that you’ll recoup a certain amount of your investment when you sell your home. So, you’ll likely want to focus on improvements with a high ROI. Highly unique improvements like home gyms, expanded closets, or a wall-length aquarium don’t usually increase your home’s value.

And as with any loan product, a HELOC isn’t free. Think about how interest rates, closing costs, and other fees might affect your financial picture.