If you’re looking for a tool you can use to borrow money when you need it, you may be wondering which is the better choice: a personal line of credit or a home equity line of credit (HELOC).
In this guide we’ll compare these two types of credit lines — both of which function similarly to a credit card but typically have a lower interest rate and a higher credit limit. We’ll also cover some of the pros and cons of using a personal line of credit vs. a HELOC.
What Is a Personal Line of Credit?
A personal line of credit, sometimes shortened to PLOC, is a revolving credit account that allows you to borrow money as you need it, up to a preset limit.
Instead of borrowing a lump sum and making fixed monthly payments on that amount, as you would with a traditional installment loan, a personal line of credit allows you to draw funds as needed during a predetermined draw period. You’re required to make payments based only on your outstanding balance during the draw period.
In that way, a PLOC works like a credit card. Generally, you can pay as much as you want each month toward your balance, as long as you make at least the minimum payment due. The money you repay is added back to your credit limit, so it’s available for you to use again.
You can use a personal line of credit for just about anything you like as long you stay within your limit, which could range from $1,000 to $100,000, and possibly more.
A PLOC is usually unsecured debt, which means you don’t have to use collateral to qualify. The lender will base decisions about the amount you can borrow and the interest rate you’ll pay on your personal creditworthiness.
Can a Personal Line of Credit Be Used to Buy a House?
If you could qualify for a high enough credit limit — or if the property you want to buy is being sold at an extremely low price — you might be able to purchase a house with a personal line of credit. But it may not be the best tool available.
A traditional mortgage — there are different types of mortgage loans — secured by the home that’s being purchased may have lower overall costs than a personal line of credit.
A variable rate, which is typical of personal lines of credit, might not be the best option for a large purchase that could take a long time to pay off. Your payments could go lower, but they also could go higher. If interest rates increase, your loan could become unaffordable.
If you use all or most of your PLOC to make a major purchase like a home, it could have a negative impact on your credit score and future borrowing ability. The amount of revolving credit you’re using vs. how much you have available — your credit utilization ratio — is an important factor that affects your credit score. Lenders typically prefer this number to be less than 30%.
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What Is a HELOC?
A HELOC is a revolving line of credit that is secured by the borrower’s home. It, too, usually has a variable interest rate.
Lenders typically will allow you to use a HELOC to borrow a large percentage of your home’s current value minus the amount you owe. That’s your home equity.
A lender also may review your credit score, credit history, employment history, and debt-to-income ratio (monthly debts / gross monthly income = DTI) when determining your borrowing limit and interest rate.
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Personal Line of Credit vs HELOC Compared
If you’re comparing a personal line of credit with a HELOC, you’ll find many similarities. But there are important differences to keep in mind as well.
Similarities
Here are some ways in which a personal line of credit and a HELOC are alike:
• Both are revolving credit accounts. Money can be borrowed, repaid, and borrowed again, up to the credit limit.
• Both have a draw period and a repayment period. The draw period is typically 10 years, with monthly minimum payments required. The repayment period may be up to 20 years after the draw period ends.
• Access to funds is convenient. Withdrawals can be made by check or debit card, depending on how the lender sets up the loan.
• Lenders may charge monthly fees, transaction fees, or late or prepayment fees on either. It’s important to understand potential fees before closing.
• Both typically have variable interest rates, which can affect the overall cost of the line of credit over time. (Each occasionally comes with a fixed rate. The starting rate of a fixed-rate HELOC is usually higher. The draw period of a fixed-rate personal line of credit could be relatively short.)
• For both, you’ll usually need at least a “good” FICO® score (670 and up on the scale from 300 to 850). Your credit score also affects the interest rate you’re offered and credit limit.
Differences
The biggest difference between a HELOC and a personal line of credit is that a HELOC is secured. That can affect the borrower in a few ways, including:
• In exchange for the risk that HELOC borrowers take (they could lose their home if they were to default on payments), they generally qualify for lower interest rates. HELOC borrowers also may qualify for a higher credit limit.
• With a HELOC, the lender may require a home appraisal, which might slow down the approval process and be an added expense. HELOCs also typically come with other closing costs, but some lenders will reduce or waive them if you keep the loan open for a certain period — usually three years.
• A borrower assumes the risk of losing their home if they default on a HELOC. A personal line of credit does not come with a risk of that significance.
|
Personal Line of Credit vs. Home Equity Line of Credit |
||
|---|---|---|
| Personal LOC | HELOC | |
| Flexible borrowing and repayment | ✓ | ✓ |
| Convenient access to funds | ✓ | ✓ |
| Annual or monthly maintenance fee | Varies by lender | Varies by lender |
| Typicaly a Variable interest rate | ✓ | ✓ |
| Secured with collateral | ✓ | |
| Approval based on creditworthiness | ✓ | ✓ |
| Favorable interest rates | ✓* | ✓* |
| *Rates for secured loans are usually lower than for unsecured loans. Rates for personal lines of credit are generally lower than credit card rates. | ||
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Pros and Cons of HELOCs
A HELOC and personal line of credit share many of the same pros and cons. An advantage of borrowing with a HELOC, however, is that because it’s secured, the interest rate may be more favorable than that of a personal line of credit.
A HELOC may offer a tax benefit if you itemize and take the mortgage interest deduction. But there are potential downsides, too.
|
Pros and Cons of HELOCs |
|
|---|---|
| Pros | Cons |
| Flexibility in how much you can borrow and when. | Your home is at risk if you default. |
| Interest is charged only on the amount borrowed during the draw period | Variable interest rates can make repayment unpredictable and potentially expensive. |
| Generally lower interest rates than credit cards or unsecured borrowing. | Lenders may require a current home appraisal for approval. |
| Interest paid is tax deductible if HELOC money is spent to “buy, build, or substantially improve” the property on which the line of credit is based. | A decline in property value could affect the credit limit or result in termination of the HELOC |
Pros and Cons of Personal Lines of Credit
Because you draw just the amount of money you need at any one time, a personal line of credit can be a good way to pay for home renovations, ongoing medical or dental treatments, or other expenses that might be spread out over time.
You pay interest only on the funds you’ve drawn, not the entire line of credit that’s available, which can keep monthly costs down. As you make payments, the line of credit is replenished, so you can borrow repeatedly during the draw period. And you don’t have to come up with collateral.
But there are other factors to be wary of. Here’s a summary.
|
Pros and Cons of Personal Lines of Credit |
|
|---|---|
| Pros | Cons |
| Flexibility in how much you borrow and when. | Variable interest rates can make repayment unpredictable and potentially expensive. |
| Interest charges are based only on what you’ve borrowed. | Interest rate may be higher than for a secured loan. |
| Interest rates are typically lower than credit cards. | Qualification can be more difficult than for secured credit. |
| You aren’t putting your home or another asset at risk if you default. | Convenience and minimum monthly payments could lead to overspending. |
Alternatives to Lines of Credit
As you consider the pros and cons of a HELOC vs. a personal LOC, you also may wish to evaluate some alternative borrowing strategies, including:
Personal Loan
With a personal loan, a borrower receives a lump sum and makes fixed monthly payments, with interest, until the loan is repaid.
Most personal loans are unsecured, and most come with a fixed interest rate. The rate and other terms are determined by the borrower’s credit score, income, debt level, and other factors.
You’ll owe interest from day one on the full amount that you borrow. But if you’re using the loan to make a large purchase, consolidate debt, or pay off one big bill, it may make sense to borrow a specific amount and budget around the predictable monthly payments.
Personal loan rates and fees can vary significantly by lender and borrower. You can use a loan comparison site to check multiple lenders’ rates and terms, or you can go to individual websites to find a match for your goals.
Auto Loan
If you’re thinking about buying a car with a personal loan, you may want to consider an auto loan, an installment loan that’s secured by the car being purchased. Qualification may be easier than for an unsecured personal loan or personal line of credit.
Most auto loans have a fixed interest rate that’s based on the applicant’s creditworthiness, the loan amount, and the type of vehicle that’s being purchased.
Down the road, if you think you can get a better interest rate, you can look into car refinancing.
Beware no credit check loans. Car title loans have very short repayment periods and sky-high interest rates.
Mortgage
A mortgage is an installment loan that is secured by the real estate you’re purchasing or refinancing.
There are many types of mortgage loans. You’ll likely need a down payment, and borrowers typically pay closing costs of 2% to 5% of the loan amount.
A mortgage may have a fixed or adjustable interest rate. An adjustable-rate mortgage typically starts with a lower interest rate than its fixed-rate counterpart. The most common repayment period, or mortgage term, is 30 years.
Your ability to qualify for the mortgage you want may depend on your creditworthiness, down payment, and value of the home.
Credit Cards
A credit card is a revolving line of credit that may be used for day-to-day purchases like groceries, gas, or online shopping. Well, you know. You likely have more than one. Gen X and baby boomers have an average of more than four credit cards per person, Experian has found.
Convenience can be one of the best and worst things about using credit cards. You can use them almost anywhere to pay for almost anything. But it can be easy to accrue debt you can’t repay.
Because most credit cards are unsecured, interest rates can be higher than for other types of borrowing. Making late payments or using a high percentage of your credit limit can hurt your credit score. And making just the minimum payment can cost you in interest and credit score.
If you manage your cards wisely, however, credit card rewards can add up. And you may be able to qualify for a low- or no-interest introductory offer.
Credit card issuers typically base a consumer’s interest rate and credit limit on their credit score, income, and other financial factors.
Student Loans
Federal student loans typically offer lower interest rates and more borrower protections than private student loans or other lending options.
But if your federal financial aid package doesn’t cover all of your education costs, it could be worth comparing what private lenders offer.
The Takeaway
A HELOC or a personal line of credit can be useful for borrowers whose costs are spread out over time, especially those who don’t want to pay interest from day one on a lump-sum loan that may be more money than they need.
If you’re a homeowner, tap your home equity with a generous HELOC brokered by SoFi. You might find that the rate and terms unlock lots of possibilities.
Check your rate on a SoFi Personal Loan.
FAQ
What is better, a home equity line of credit or a personal line of credit?
If you qualify for both, a HELOC will almost always come with a lower interest rate.
Can I use a HELOC for personal use?
Yes. HELOC withdrawals can be used for almost anything, but the line of credit is best suited for ongoing expenses like home renovations, medical bills, or college expenses. Some people secure a HELOC as a safety net during uncertain times.
How many years do you have to pay off a HELOC?
Most HELOCs have a “draw period” of 10 years, followed by a repayment period.
What happens if you don’t use your home equity line of credit?
Having a HELOC you don’t use could help your credit score by improving your credit utilization ratio.
How high of a credit score is needed for a line of credit?
Personal lines of credit are usually reserved for borrowers with a credit score of 670 or higher. A credit score of at least 680 is typically needed for HELOC approval, but requirements can vary among lenders. Some may be more lenient if an applicant has a good DTI or accepts a lower loan limit.
Does a HELOC increase your mortgage payments?
The HELOC is a separate loan from your mortgage. The two payments are not made together.
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