How a HELOC is structured
A home equity line of credit is revolving credit secured by your home, and it is governed as open-end credit under Regulation Z rather than as a closed-end mortgage. That structural difference is what produces its two distinct phases.
The draw period — typically ten years — is when the line behaves like a secured credit card. You borrow what you want up to the limit, repay it, and borrow again. The minimum payment on most lines is interest only, calculated on the balance you happen to be carrying that month at the current rate. Pay the balance to zero and the payment is zero.
The repayment period — typically ten to twenty years after that — is when the line closes to new borrowing and whatever balance remains amortises to zero. Now the payment includes principal, and it is set on the date the draw period ends.
The gap between those two payments is the single most important number on this page. On the default figures, $60,000 at 8% costs $400 a month during the draw and $501.86 a month afterwards — a 25% increase. That looks mild because the repayment term is twenty years. Shorten it to ten and the payment becomes $727.96 a month, an 82% increase, arriving in a single month on a date fixed at closing.
Sizing the line, and what sets your rate
The line size is a subtraction. Take the home value, multiply by the lender's maximum combined loan-to-value, and subtract every existing lien. If a lender allows 85% CLTV on a $450,000 home with $260,000 owed, the ceiling is $382,500 and the line is $122,500. The word combined matters: the limit applies to all liens together, so a second mortgage or a solar loan reduces the line dollar for dollar.
Because home value sits on the front of that equation, a HELOC's size is unusually sensitive to appraisal. At 85% CLTV, every dollar of appraised value is 85 cents of line — so a valuation that comes in $20,000 light costs $17,000 of borrowing capacity. Check what your equity position looks like first with the loan-to-value calculator.
The rate is an index plus a margin. Almost all US HELOCs are tied to the Wall Street Journal prime rate, which moves with the Federal Reserve's target. The margin is fixed for the life of the line and set by your credit profile, combined LTV and sometimes by whether you take an initial draw. So a line quoted at "prime plus half" means the rate changes whenever prime changes, and the interest-only payment changes with it: on a $60,000 balance, one percentage point is $50 a month, because 60,000 ÷ 1,200 = 50.
The interest-only payment is simple interest on the balance. Balance times annual rate divided by twelve. Nothing amortises, so a borrower who pays only the minimum for the entire ten-year draw period ends it owing exactly what they borrowed.
Worked example: $122,500 line on a $450,000 home
Your home is worth $450,000 and you owe $260,000 on the first mortgage. The lender allows 85% CLTV. Prime is 7.5% and your margin is 0.5%. You plan to draw $60,000 for a renovation, with a ten-year draw period and a twenty-year repayment period.
- CLTV ceiling. 450,000 × 0.85 = $382,500.
- Maximum line. 382,500 − 260,000 = $122,500.
- Your rate. 7.5% + 0.5% = 8.00%, so the monthly rate is 0.08 ÷ 12 = 0.0066667.
- Interest-only payment on $60,000. 60,000 × 0.0066667 = $400.00 a month.
- If you drew the whole line. 122,500 × 0.0066667 = $816.67 a month.
- Interest paid during the draw period. 400 × 120 = $48,000, with the balance still $60,000 at the end.
- Repayment payment. With r = 0.0066667 and n = 240, P = 60,000 × 0.0066667 ÷ (1 − 1.0066667−240) = 400 ÷ 0.797028 = $501.86 a month.
- Interest during repayment. 501.86 × 240 − 60,000 = 120,447 − 60,000 = $60,447.
- Total interest. 48,000 + 60,447 = $108,447 to borrow $60,000 over thirty years.
- Resulting combined LTV. (260,000 + 60,000) ÷ 450,000 = 71.11%.
Step 9 is the one worth sitting with. Interest-only payments feel cheap because they are small, but they buy no progress: $48,000 leaves the debt exactly where it started. Paying $501.86 from the first month instead would clear the same $60,000 in twenty years for $60,447 of interest — $48,000 less, for $101.86 more a month.
The payment reset is a date, not a drift
The end of the draw period is written into your agreement at closing, and the payment changes in one step on that date. Nothing warns you as it approaches except the lender's disclosures. Two things make the jump worse than the example above: a repayment term shorter than twenty years, and a rate that has risen since you opened the line. Both are common, and they compound — a $60,000 balance amortising over ten years at 10% is $792.90 a month against a $500 interest-only payment at 10%, a 59% increase.
Lenders may also freeze or reduce a line during the draw period if property values fall or your circumstances change. Regulation Z permits this in defined situations, so a HELOC held as an emergency reserve is not guaranteed to be there in exactly the conditions that would make you want it.
How to judge whether the line makes sense
Read four numbers together: the line size, the two payments, and the resulting combined LTV.
Combined LTV is your risk position. Above 80% you have thin equity, and a market decline can leave you unable to sell or refinance without bringing cash. Above 90% is very exposed. The line does not create the risk when it is opened — it creates it when it is drawn, which is why the calculator reports CLTV on the balance you actually plan to carry.
The interest-only payment is not the cost of the borrowing. It is only the rent on the money. Judge affordability against the repayment-period payment, because that is the obligation you are actually signing up for.
Compare the rate against the alternatives on the same security. A HELOC is usually cheaper than unsecured credit and more expensive than a first mortgage. Against a cash-out refinance, the decisive question is what rate your existing first mortgage carries: if it is well below current rates, refinancing the whole balance to reach the equity is expensive in a way that is easy to miss, and a HELOC leaves that low rate alone.
Variable-rate exposure has to be sized deliberately. Because the payment moves with the index, work out what happens at a rate two or three points above today's. On a $60,000 balance each point is $50 a month during the draw, and it also raises the repayment payment when that period starts.
Interest-only and repayment payments per $10,000 drawn
| Rate | Interest-only | Repay over 10 yr | Repay over 15 yr | Repay over 20 yr |
|---|---|---|---|---|
| 6.00% | $50.00 | $111.02 | $84.39 | $71.64 |
| 7.00% | $58.33 | $116.11 | $89.88 | $77.53 |
| 8.00% | $66.67 | $121.33 | $95.57 | $83.64 |
| 9.00% | $75.00 | $126.68 | $101.43 | $89.97 |
| 10.00% | $83.33 | $132.15 | $107.46 | $96.50 |
| 11.00% | $91.67 | $137.75 | $113.66 | $103.22 |
Interest-only is rate ÷ 12 × 10,000. The amortising columns are the standard payment formula at that rate and term. Notice that at 10% the ten-year repayment payment is 1.59 times the interest-only payment, while at 6% it is 2.22 times — the shock is proportionally larger at low rates because interest is a smaller share of the amortising payment.
What people get wrong about HELOCs
- Budgeting from the interest-only payment. It is the smallest number the product will ever show you, and it is temporary by design.
- Assuming the rate is fixed. Almost all HELOCs are variable and tied to prime. Some lenders offer fixed-rate lock options on portions of the balance; read whether yours does and what it costs.
- Forgetting that the limit applies to all liens. A second mortgage, a solar lien or a PACE assessment all count against the CLTV ceiling and shrink the line.
- Treating the line as guaranteed. Lenders can suspend or reduce an unused line if values fall or credit deteriorates, which is precisely when you would want it.
- Missing the fees. Annual fees, inactivity fees and early-closure fees are common on HELOCs and are not part of the rate. Ask for the full fee schedule, which Regulation Z requires the lender to disclose.
- Assuming the interest is tax-deductible. Since the 2017 tax law, interest on home equity debt is deductible only when the proceeds are used to buy, build or substantially improve the home securing the loan, and only within the overall mortgage-interest limits. Check IRS Publication 936 for your situation.
- Using a HELOC to buy a rental and forgetting the payment continues while the property is vacant. Model the combined obligation in the rental cash flow calculator before committing.
HELOC, home equity loan or cash-out refinance
Three products reach the same equity, and they differ in ways that matter more than the rate.
A home equity loan is a closed-end second mortgage: you take the whole amount at once, at a fixed rate, and amortise from day one. There is no draw period and no payment reset. It is the right answer when you know the amount, want rate certainty, and do not need to re-borrow.
A HELOC gives flexibility instead of certainty. You pay interest only on what you draw, so it suits staged spending — a renovation with three payment milestones, or a BRRRR investor who will repay from a refinance in nine months. You accept variable rates and a payment reset in exchange.
A cash-out refinance replaces your first mortgage entirely with a larger one. It gives you first-lien pricing on the whole balance, which is usually the lowest rate of the three — but if your existing first mortgage carries a rate well below the market, refinancing it to reach equity means repricing every dollar you already owe. Work out the true cost with the cash-out refinance calculator rather than comparing headline rates.
A fourth option that suits investors specifically: for short-horizon acquisition and rehab, compare against the hard money loan cost calculator. Hard money is far more expensive per month but is priced for a six-to-twelve-month life and does not encumber your residence.