HELOC vs. Personal Loan: What’s the Difference?

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A home-equity line of credit, or HELOC, is a revolving credit line, similar to a credit card, but it draws against your home equity and uses your home as collateral.

A personal loan is different because it provides you with a lump-sum payment and is usually unsecured.

Key Differences Between HELOCs and Personal Loans 

The following table shows how the loans differ.

What Is a HELOC? 

A HELOC is a revolving line of credit against your home equity — the portion of your home’s value that you own outright. Most lenders have a minimum loan amount of $10,000 to $25,000, and they generally let you borrow as much as 80% or 85% of your equity.

HELOC terms may vary in length. There are two stages:

• Draw period: This is when you may draw money against your credit line. It usually lasts 10 years. Lenders usually only required you to pay interest on the amount you’ve borrowed during the draw period. But paying down the principal frees up your credit line so you can reuse it.
• Repayment period: After the draw period ends, the repayment period begins. It usually lasts 10 to 20 years. You won’t be allowed to use your credit line during this time.

Most HELOCs have variable rates that can change during the loan term. However, you might be able to lock in a fixed rate on some or all of your balance.

The most important thing to remember about HELOCs is that borrowing against your equity means your home serves as collateral for the loan — if you fail to repay the loan, you could lose your home. As a result, many borrowers use HELOCs to make home improvements that’ll increase their homes’ values, or to pay college costs or ongoing medical expenses.

Most HELOCs come from banks and credit unions, although a few mortgage companies also offer them.

What Is a Personal Loan? 

A personal loan is an installment loan not secured by your home. Most personal loans are unsecured, meaning you don’t need collateral to get one. Typical loan amounts range from $1,000 to $100,000 or more.

A personal loan gives you the full loan amount in one lump sum. You then repay the loan in monthly installments that typically last two to seven years.

A personal loan can be used for just about anything, including debt consolidation and one-time expenses like a home repair. The loans are easier to find compared to HELOCs because you can get them from banks, credit unions and numerous nonbank lenders.

How Does a HELOC Work? 

Here’s how a HELOC works.

1. Apply for your loan online or in person. The lender will review your income, credit and existing mortgage loans.
2. Prepare your home for an appraisal. The lender might order one to verify your home’s value and your equity.
3. Once approved, review and sign your loan documents to close on the loan and open your line of credit.
4. Begin making draws against your credit line, taking into account any minimum draw requirements set by the lender.
5. Make at least the minimum payment your loan requires during the draw period.

How Does a Personal Loan Work? 

A personal loan is faster and easier to get. Here’s how it works.

1. Apply in person or online. The lender will review your income and credit.
2. Once approved, review and sign your loan documents to finalize the loan and receive the funds.
3. Make your monthly installment payments. The payments will continue for the full loan term.

Pros and Cons of Each Option 

HELOCs and personal loans have pros and cons to consider when deciding which loan type is best.

HELOC Pros

• The loan is secured, so the rate is often lower than rates on personal loans.
• You make interest-only payments during the draw period, and only on the amount you’ve borrowed.
• A long repayment period helps keep payments affordable.

HELOC Cons

• Your home serves as collateral, so it’s at risk of foreclosure if you default.
• It’s difficult to predict what your financial situation might be 10 years out, when repayment begins.
• Variable rates mean your payment amount will change periodically, making it harder to budget for.

Personal Loan Pros

• Collateral is usually unnecessary.
• You can borrow smaller amounts than are possible with HELOC.
• Your loan can be approved and funded within a couple of days.

Personal Loan Cons

• Interest rates can be high.
• Some lenders charge high origination fees.
• How much you can borrow might be more limited with an unsecured loan.

How To Choose the Right Option for You

Here are a few scenarios to help you decide which type of loan is best for you.

How To Apply for a HELOC or a Personal Loan 

HELOCs and personal loans are very different products, but you’ll take the same steps to apply regardless of which you choose.

1. Review your credit report for mistakes you need to correct before you apply, and check your credit score to make sure you’re likely to qualify.
2. Gather the documents the lender is likely to ask for. These include your photo ID, recent pay stubs and W-2 and/or 1099 forms.
3. Compare rates from banks and credit unions for HELOCs, and banks, credit unions and nonbank lenders for personal loans.
4. Follow the lender’s instructions for applying.
5. Wait for a response. You could get it almost instantly with a personal loan. HELOC applications can take several days to process and might require an appraisal.
6. Review and sign your loan documents.
7. Wait for your personal loan funds to be disbursed, or for your line of credit to open. This could take a day or two with a personal loan. A HELOC might take longer.

Following the lender’s instructions, and responding promptly to requests for additional information or documentation, can help expedite loan processing and give you a better chance of being approved.

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