While you can use home equity to buy a car, that doesn’t necessarily mean you should. In fact, most financial professionals recommend against it. However, using your home equity in specific scenarios might be the most practical decision.
Even though home equity options may allow you to finance your auto purchase at potentially lower rates and payments, you must consider some serious downsides, including the risk of foreclosure if you fall behind on your loan, as well as the total cost of interest you’ll end up paying.
Key Takeaways
- You can tap home equity through a home equity loan, HELOC, or cash-out refinance.
- Home equity can be used to buy a car, but doing so is not a savvy decision for most borrowers.
- Using a home loan to finance your auto purchase will likely lead to lower payments but result in far higher lifetime interest costs compared to a traditional auto loan.
How to Tap Home Equity
Tapping home equity is typically accomplished through one of three uniquely different types of loans:
- Home Equity Loan: Fixed-rate second mortgage providing a lump-sum cash payment
- HELOC: Variable-rate second mortgage with a revolving line of credit
- Cash-Out Refinance: Fixed or variable-rate first mortgage providing a lump-sum cash payment
| Home Equity Loans | HELOCs | Cash-Out Refinances | |
| Loan Type | Second mortgage | Second mortgage | First mortgage |
| Interest Rate | Generally higher than average first-mortgage rates | Generally higher than average first-mortgage rates | Often closer to average first-mortgage rates |
| Rate Type | Fixed-rate | Adjustable-rate | Fixed or adjustable-rate |
| Repayment Term | 5 to 20+ years | 15 to 30 years | Typically 30 years |
| Payout | Lump sum | Revolving line of credit | Lump sum |
Home Equity Loans
Home equity loans are a type of second mortgage that exists alongside your existing primary loan. With a home equity loan, you receive an upfront lump sum of cash to use for any purpose you choose, including buying a car.
Home equity loans typically have repayment terms of 5 to 20 years, though some lenders may offer longer terms. Typically, home equity loans have a fixed interest rate and stable monthly payments that remain consistent for the life of the mortgage.
Depending on your financial profile and lender, home equity loans will commonly let you access up to 90% of your home’s current appraised value.
- Loan Type: Second mortgage
- Rate Type: Fixed
- Payout: Lump sum
- Best Use: Borrowers who want predictable payments and have a below-market rate on their existing mortgage
Advantages
- Access to a large percentage of your home equity
- Stable and predictable monthly payments
- Allows borrowers to retain existing mortgages with favorable rates
Disadvantages
- Higher interest rates than first-position primary mortgages
- Responsible for making payments on two separate home loans
- Potentially higher credit and financial requirements than a first-position loan
HELOCs
A home equity line of credit (HELOC) is another type of second mortgage that sits alongside your current loan. Rather than an upfront sum, HELOCs provide ongoing access to a revolving line of credit during their initial draw phase.
During this draw period, which commonly lasts between 5 and 10 years, you’re only responsible for making monthly interest payments on your running balance. However, paying down your principal allows you to reaccess the line of credit.
When your HELOC enters the repayment period, you can no longer draw from your line of credit and begin making monthly payments toward both interest and your principal balance. Most repayment periods last between 10 and 20 years.
Unlike home equity loans, HELOCs generally have variable interest rates that can rise or fall with changes in the broader financial markets. HELOCs often let you tap up to 90% of your home’s appraised value.
- Loan Type: Second mortgage
- Rate Type: Variable
- Payout: Revolving line of credit
- Best Use: Borrowers who may want to tap into their home equity multiple times within the near-to-mid future
Advantages
- Your line of credit can be used as many times as needed during the draw period
- Interest-only payments during the draw period equate to lower monthly costs
- Only pay interest on the funds used, not your entire line of credit
Disadvantages
- Variable interest rates can cause monthly payments to rise if overall rates increase
- Payments can jump once you reach the repayment period, especially in an increasing rate environment
- Higher credit and financial requirements than a primary loan
Cash-Out Refinances
A cash-out refinance is a type of first-position loan that replaces your existing primary mortgage. With a cash-out refinance, you borrow more than you owe on your current loan, with the difference, minus closing costs, returned to you as a lump-sum cash payment.
Most cash-out refinances have a 30-year term, though shorter repayment schedules are available. Cash-out refinances can have both fixed and adjustable rates, although fixed-rate loans are far more common.
You can typically access up to 80% of your home’s appraised value with a cash-out refinance.
- Loan Type: First mortgage
- Rate Type: Fixed or variable
- Payout: Lump sum
- Best Use: Borrowers who can refinance at a lower rate than their current rate
Advantages
- Interest rates tend to be lower than second mortgage options
- Only responsible for a single monthly mortgage payment
- Qualifying can be easier than second-position loans
Disadvantages
- May provide access to less equity than a home equity loan or HELOC
- Since you will replace your existing loan, you are responsible for paying closing costs on your entire mortgage balance
- Resetting the clock on your whole mortgage can result in higher lifetime interest costs
Why Some Borrowers Use Home Equity to Buy a Car
While using home equity to buy a car isn’t typically recommended, there are some very practical reasons that borrowers may consider this route instead of traditional auto financing:
- Lower Interest Rates: Since your home secures your mortgage, you’ll likely qualify for a lower interest rate than on an auto loan, which, according to recent data from Cox Automotive, averages 9.41% on new vehicles and 14.19% when buying used.
- Longer Repayment Terms: Using home equity allows you to finance your auto purchase over an extended period – up to 30 years – which would significantly reduce your monthly costs. Traditional auto loans tend to span 3 to 7 years, with 72-month (6-year) loans being the most prevalent.
- Larger Loan Amount: Depending on your financial profile and built-up equity, you may be able to access a larger amount of funds by borrowing against your home. This can allow you to purchase a more expensive car than you might otherwise qualify for.
- Flexible Use of Funds: When tapping home equity, you can use the funds however you choose, meaning that in addition to buying a car, you could also consolidate debt, make home improvements, or pay for other major life expenses.
The Risks of Using Home Equity for a Car Purchase
Despite the benefits of using home equity to buy a car, it’s not usually a wise decision for most borrowers. While the rates, payments, and borrowing power may be appealing, you’ll want to seriously consider some significant downsides before tapping into your home equity for an auto purchase:
- Risk of Foreclosure: Funding your auto purchase with built-up equity puts your home at risk of foreclosure if you cannot make your payments. With an auto loan, you primarily risk losing the vehicle you financed.
- Long-Term Debt on a Short-Term Asset: Most options for accessing home equity have repayment terms that likely last far longer than the vehicle you purchase. While the average age of automobiles in the US is 12.8 years, home loans commonly extend for 15, 20, or even 30 years.
- Closing Costs: Although you likely incur dealer fees when purchasing a car, most auto loans have little to no fees of their own. When tapping home equity, however, you are typically responsible for covering closing costs, which typically range from 2% to 5% of the total amount financed.
- Higher Overall Interest Costs: Despite the lower interest rate, you likely pay far more in lifetime interest costs when tapping home equity. For example, a $40,000 vehicle financed over six years at 10% interest would result in $13,354 in lifetime interest costs. That same amount financed over 20 years at 8% interest would have a total interest cost of $40,298.
Home Equity vs. Auto Loan: Which Is Better?
Let’s take a look at a side-by-side comparison of the key structural differences between taking out an auto loan and using home equity to fund your vehicle purchase.
| Home Equity | Auto Loan | |
| Interest Rate | Often lower on average | Often higher on average |
| Rate Type | Fixed or variable | Typically fixed |
| Secured By | Your home | Your vehicle |
| Repayment Terms | 5 to 30 years | 3 to 7 years |
| Overall Interest Costs | Can be higher over longer terms | Can be lower due to shorter terms |
| Closing Costs | 2% to 5% | Lender-specific but often minimal |
Cost Comparisons
Here, we’ll walk through a cost comparison of different methods for funding your vehicle purchase.
For the sake of calculations, we’ll assume the HELOC maintains a constant interest rate and has a five-year draw period, during which you make monthly interest-only payments.
With the cash-out refinance, we’ll calculate based on the amount used to buy the car, since the overall cost varies depending on your existing mortgage balance.
| Auto Loan | Home Equity Loan | HELOC | Cash-Out Refinance | |
| Loan Amount | $30,000 | $30,000 | $30,000 | $30,000 |
| Interest Rate | 10% | 7% | 8% | 6% |
| Term | 5 years | 15 years | 15 years | 30 years |
| Monthly Payment | $637 | $270 | Draw phase: $200Repayment phase: $364 | $180 |
| Total Interest | $8,245 | $18,537 | $25,678 | $34,751 |
| Total Cost | $38,245 | $48,537 | $55,678 | $64,751 |
As this cost comparison illustrates, even though interest rates and monthly costs are far lower with home equity, you wind up paying significantly more in total interest over the lifetime of the loan due to the extended term.
Tapping Home Equity to Buy a Car: Know the Risks
Using home equity to buy a car can make sense in certain situations, but it isn’t the best option for everyone. Because automobiles quickly depreciate and tapping into home equity puts your property at risk of foreclosure, compare your options and seriously weigh the pros and cons before using your home to finance a vehicle purchase.
Ready to see how your individual home equity options may compare to a traditional auto loan? Start your refinance or home equity quote with Refi.com →
