Can I Use a Home Equity Loan To Buy Another House?

If you have a significant amount of equity in your primary residence, you can tap into it through a home equity loan. You can then use that money for any purpose you wish, including buying a second home or an investment property.

However, using a home equity loan to buy another house is not without risks. It’s smart to understand the pros and cons before you proceed.

Using a Home Equity Loan To Buy Another House

The short answer to the question of whether you can use a home equity loan to buy another house is yes, you generally can. Bear in mind, however, that some lenders may have restrictions on the source of your down payment and may not be willing to issue a mortgage on the new home if you’re using a home equity loan for that purpose. Of course, that will not be a problem if you are paying all cash for the new home.

Unlike a home equity line of credit (HELOC), which provides a revolving line of credit, a home equity loan gives you the entire loan amount up front. The amount will depend on how much equity you have in your home, its market value, and how much you want to borrow. Your income and credit history will also affect the loan amount. Most lenders will cap the total amount at a percentage (usually 85%) of the home’s value. When your home equity loan closes, you’ll receive the full proceeds and can then spend the money to buy another house or do whatever you want with it.

Pros and Cons of Using a Home Equity Loan To Buy Another House

The major advantage of using a home equity loan to buy a second home is that it may be your best (or only) significant source of funding if you find yourself house-rich but cash-poor. Another potential plus is that interest rates on home equity loans often will be lower than other forms of borrowing, though they are typically higher than interest rates on a mortgage.

The biggest downside of using a home equity loan for buying another property—or for any other purpose—is that you are putting your primary residence at risk because it serves as collateral to secure the loan. If you find yourself unable to make the payments on your home equity loan, the lender could foreclose on your home and evict you.

An additional danger is that by taking on a home equity loan, especially if you still owe money on your first mortgage, you could find yourself overwhelmed by debt if you face an unexpected financial reversal, such as a job loss or big medical bills. Indeed, you could wind up obligated to pay off three mortgages at once: the remainder of the mortgage on your primary residence, a mortgage on your second house (if your loan isn’t large enough to buy the house outright), and your home equity loan.

Finally, another downside is that you’ll have to pay closing costs on the home equity loan, which could be 2% to 5% of the total loan cost. You’ll also have to pay closing costs on the home that you’re buying.

Alternatives To Using a Home Equity Loan to Buy Another House

Before you apply for a home equity loan to buy another house, it’s worth considering the alternatives. They, too, have advantages and disadvantages.

Cash

The best source of cash to buy another house would be money that you have already saved and for which you have no other immediate need. Of course, if you have that, you shouldn’t be seeking a loan at all.

Retirement savings

Your retirement savings are a possibility. If you have a 401(k) plan at work, for example, your employer may allow you to borrow a portion of it through a 401(k) loan. Like home equity loans, retirement plan loans can be risky. You’ll typically need to pay back the loan within five years—even sooner if you lose your job. If you can’t pay it back, then you’ll owe income taxes and possible penalties.

Personal loan

You could consider a personal loan. You’ll pay a higher interest rate than with a home equity loan or a HELOC, but if the personal loan is unsecured, your home won’t be at risk if you fall behind on payments.

Cash-out refinance

A cash-out refinance pays off your current mortgage with a larger one based on the accumulated equity in your home. You can then use the extra cash for other purposes. Of course, you’ll now have more debt and higher monthly mortgage payments. These loans also have high closing costs.

Home equity line of credit (HELOC)

Using a HELOC to buy an investment property, rental property, or second home can give you more flexibility than you get with a home equity loan, in that you don’t have to take the money all at once. This might be useful if you need some cash now for a down payment and expect to need more in a year or two to make some renovations. However, HELOCs typically carry variable interest rates, making them less predictable than a home equity loan, which usually has a fixed rate. 

Reverse mortgage

If you are age 62 or older and looking to become a landlord in your retirement, you could take out a federally insured home equity conversion mortgage (HECM), a federally backed reverse mortgage, to buy a property that includes rental apartments to provide you with an income stream in your later years. Another option is to buy a new single-family house or condo with the reverse mortgage and rent your previous home. The reason: You must live in the home on which you have a reverse mortgage.

An HECM converts the equity in your home into cash that is usually tax free and doesn’t affect your Social Security and Medicare. The lender pays you the money, and you don’t have any monthly payments on the mortgage. Indeed, as long as you live in the home, you don’t have to pay off the mortgage at all, though you still must pay the costs of maintaining your home. However, when you move out of the home, sell the home, or die, then you, your spouse, or your estate must pay off the mortgage in full, plus interest from a variable rate that accrues over the life of the loan and eats up the home’s equity.

This means that if you plan on leaving your home to your heirs, there would be a hefty bill for being able to do so. Still, at that point, the proceeds from the sale of any rental property you own could possibly pay off the reverse mortgage.

The Bottom Line

If you have enough equity in your home, it’s possible to use a home equity loan to buy another property. One major downside to consider is that if you’re unable to keep up with loan payments, you could lose your home. A HELOC, personal loan, or cash-out refinance are among the alternatives to achieve the same goal and, for some borrowers, may be a better fit. Each has advantages and disadvantages.