How a HELOC works
A Home Equity Line of Credit (HELOC) is a revolving credit facility secured against your home. Unlike a fixed home equity loan that disburses a lump sum, a HELOC gives you a credit limit you can draw from, repay, and re-borrow during the draw period. It functions similarly to a credit card, but with your home as collateral and significantly lower interest rates.
A HELOC has two distinct phases. During the draw period, you can borrow up to your credit limit, make minimum payments, and re-use repaid funds. During the repayment period, the line closes to new draws and the outstanding balance is repaid through fully amortising payments. The payment jump from draw to repayment period is one of the most important financial risks of a HELOC, especially if interest rates have risen by that point.
CLTV (Combined Loan-to-Value) is the key underwriting metric. Most lenders cap CLTV at 80 to 85%, meaning the combined balance of your primary mortgage plus the HELOC cannot exceed 80 to 85% of the home's appraised value.
The payment formulas
Interest-only draw payment = Balance × (APR / 12)
Fully amortising draw payment = P × r(1+r)^n / [(1+r)^n − 1]
where r = APR/12, n = months remaining
Repayment payment = Balance_at_end_of_draw × r(1+r)^n / [(1+r)^n − 1]
where n = repayment period months
CLTV = (Mortgage balance + HELOC balance) / Home value × 100%
Gross equity = Home value − Mortgage balance
Typical lender available equity = Home value × 0.85 − Mortgage balance
This page models a variable-rate HELOC and a simple annual-draw structure. It does not model lender fees, changing home values, or primary-mortgage amortisation.
HELOC vs alternatives
| Product | Structure | Rate type | Best for | Key risk |
|---|
| HELOC | Revolving line | Variable | Ongoing needs, staged renovation, reserve access | Rate rises and payment shock |
| Home equity loan | Lump sum | Fixed | One-time large expense | Interest starts on full amount |
| Cash-out refinance | New first mortgage | Fixed or variable | Large amount at lower full-mortgage rate | Resets mortgage term |
| Personal loan | Unsecured term loan | Fixed | Smaller amounts with no home collateral | Higher rate |
Frequently Asked Questions
What is the payment shock risk at the end of the draw period?+
Payment shock occurs when a borrower moves from the draw period to the repayment period and monthly payments increase because the balance must now amortise over a fixed term. The risk is larger when the balance is still high and the rate has risen before repayment starts.
What CLTV limit do lenders typically use?+
Most lenders cap the Combined Loan-to-Value at 80 to 85% of the home's appraised value. Some go higher for stronger borrowers, but 85% is the common benchmark.
Can I lock part of my HELOC into a fixed rate?+
Some lenders allow all or part of a variable-rate HELOC balance to be converted into a fixed-rate segment. Terms and limits vary by lender.
Is HELOC interest tax deductible?+
Tax treatment depends on jurisdiction and how the funds are used. In the United States, interest is generally deductible only when the proceeds are used to buy, build, or substantially improve the home securing the loan.
What happens if I sell my home while the HELOC is open?+
The HELOC balance normally has to be repaid at closing from the sale proceeds, alongside the primary mortgage, because both loans are secured against the property.
How does a HELOC differ from a home equity loan?+
A HELOC is revolving and usually variable-rate. A home equity loan is a fixed lump-sum loan with set repayment terms. HELOCs suit flexible borrowing. Home equity loans suit known one-time needs.