Can I Use a Home Equity Loan to Pay for College?
Yes, you can use a home equity loan to pay for college — but the bigger question is whether or not you should. Rising interest rates may make home equity loans more expensive than student loans, and you can lose your house if you fail to make your payments.
But even if skyrocketing home values make you feel like you’re sitting on a gold mine, consider all your options before tapping your home equity to pay for college.
Home equity loan vs. student loan: Which is better?
Exhausting all federal student loan aid before turning to home equity loans or other financing options is the wisest course of action.
Student loans are unsecured — so there’s no collateral — and they can be taken out by the student or the parent. With federal student loans (which usually have lower rates than private student loans), there are also extra borrower protections. If you lose your job, your salary is reduced or you have a medical emergency, federal student loans have options to reduce or pause your payments.
With a home equity loan, you borrow against the equity in your house — how much it’s worth minus what you owe on its mortgage. Lenders typically allow you to borrow up to 85% of the equity in your home, so if your house is worth much more than it was when you bought it, you could qualify for a hefty lump sum and repay it in installments. You can use a home equity loan for virtually any purpose — so you can even use a home equity loan to pay off student loans or finance a European vacation.
But — and here’s the catch — your home is the collateral for the loan. If you fall behind on your payments, you risk losing your house.
Pros and cons of using a home equity loan for college
| Pros | Cons |
|---|---|
Home equity loans are flexible. You can use the home equity loan for any purpose, including college expenses, home renovations or even a dream vacation. Loan interest may be tax-deductible. Depending on when and how you use the money from a home equity loan, you may be able to deduct the interest you paid. You'll have predictable monthly payments. Home equity loans are repaid in fixed monthly installments. | Your home is collateral. Home equity loans are secured by your home, so you risk losing your house if you fall behind on your payments. Rates are high right now. Interest rates are much higher than they were in 2020 or 2021, so home equity loan rates may be higher than the rates of student loans. You’ll need good credit. To qualify for a home equity loan, you’ll typically need good to excellent credit. With most federal loans, there's no minimum credit score requirement. |
Questions to ask before using a home equity loan to pay for college
Still not sure what to do? Ask yourself the following questions:
What is your risk tolerance?
It may seem odd to think about risk when taking out a loan for college, but a home equity loan always involves some level of risk. Your house is likely the biggest purchase and asset you’ll ever have, and by taking out a loan, you’re using that purchase as collateral. If you lose your job or become ill and fall behind on your payments, the lender could force you to sell your home to recoup their money.
Further, home values could drop — and with the home equity loan on top of your existing mortgage, you could end up underwater.
If your job is secure and you have a substantial safety net, those concerns may not be a big deal for you. But if you’re risk averse, those drawbacks could be enough to make you reconsider applying for a home equity loan.
What home equity loan rates do you qualify for?
If you bought a home in 2020 or 2021, you likely have a low-rate mortgage. Unfortunately, interest rates now — including the rates on home equity loans — are significantly higher than they were in past years, so you may be surprised by how expensive a home equity loan can be. And if you have a less-than-perfect credit score, bad credit home equity loans tend to have much higher rates.
What student loans does your child qualify for?
Before taking out a home equity loan, make sure your child exhausts all of their financial aid options, including federal student loans. Federal loans have fixed interest rates, and their rates tend to be lower than you’ll find with other forms of credit — including home equity loans.
Federal Loan Interest Rates on Loans Disbursed on or After July 1, 2023, and Before July 1, 2024
| Borrower Type | Rate | |
|---|---|---|
| Direct Subsidized | Undergraduate | 5.50% |
| Direct Unsubsidized | Undergraduate | 5.50% |
| Direct Unsubsidized | Graduate or professional | 7.05% |
| Parent PLUS | Parents of undergraduate students | 8.05% |
| Grad PLUS | Graduate students | 8.05% |
Private student loans are another type of student loan you can use if your child reaches the federal loan borrowing maximum; however, they will likely need a cosigner to qualify for a private loan. If you cosign, you’re legally responsible for the loan if your child misses the payment due dates.
How close are you to retirement?
If you’re almost done working, you may want to think twice about taking out a loan. Borrowing more money increases your financial obligations, and that could cause you to delay your retirement date (or have to make payments with your retirement savings).
Home equity loan terms can typically range from five to 30 years, so taking out a loan could impact your financial security in retirement.
Do you plan on moving?
When you take out a home equity loan, you’re basically taking out a second mortgage. If you decide to move and sell your home, you’ll have to use the sale proceeds to pay off both the home equity loan and the purchase mortgage, leaving you with less money after the sale.
How many students do you need to put through school?
A home equity loan can make sense when you have one child who’s reached their borrowing limits with student loans and needs a little help to finish their degree. You can take out a relatively low amount and repay it within a few years.
However, it’s more complicated if you have several children to put through college. Considering how expensive college is right now, you’ll quickly exhaust the equity in your home, and you may end up repaying six figures of debt — with interest.
How to get a home equity loan to pay for college
If you decide that a home equity loan is right for you, you can get a loan in just four steps:
1. Evaluate your equity (and budget)
Think about how much money you want to borrow for college, and compare that to your home’s equity. Use a home equity calculator to find out how much you can borrow, or follow these steps:
→ Multiple your home’s current value by 85% — the maximum percentage of equity most lenders will allow you to borrow.
→ Subtract your payoff balance for the original mortgage
→ The result is how much you can potentially borrow with a home equity loan
2. Check your credit score
Your credit score will determine if you qualify for a home equity loan, as well as the rates you may be eligible for when you apply. In general, you’ll need good to excellent credit, meaning a FICO Score of 670 or higher.
You can view your credit score for free online.
3. Compare lenders
Rates and terms vary by lender, so while it may seem overwhelming, it does pay to shop around. Many lenders have prequalification tools you can use to view your loan options without affecting your credit, helping you find your best rates and terms.
4. Apply
Most lenders allow you to apply online. In general, you’ll need the following documents:
→ Your Social Security number
→ Recent utility bills as proof of address
→ Recent pay stubs
→ Current mortgage statement
→ Property tax statements
→ Tax returns
→ Driver’s license or another government-issued ID
Most lenders will also require a new home appraisal to determine the current value of your house.
Although timing varies by lender, it typically takes between two and six weeks for a home equity loan to be processed and for you to receive the loan funds.
What if a home equity loan isn’t right for me?
Home equity loans aren’t for everyone. If the idea of using your home as collateral makes you nervous or you don’t have enough equity established yet, consider these alternatives:
→ Scholarships, grants and financial aid: Make sure you and your child fill out the Free Application for Federal Student Aid (FAFSA). The FAFSA is what will help your child qualify for grants, federal student loans, institutional aid and work-study programs.
→ Save money by starting with community college: To cut costs, your child can attend a community college for two years, then transfer to a four-year school to complete their degree. On average, community college costs $3,990 per year, while a public four-year school for an in-state student costs $11,260 per year, so starting at a community college will allow you to save a substantial amount of cash.
→ HELOC: For some people, a home equity line of credit (HELOC) may be a better choice. It gives you access to a revolving line of credit you can use again and again. That feature may make it easier to help your child with only certain expenses, and it eliminates the temptation of spending the lump sum of a home equity loan. Plus, you’ll only pay interest on the amount of the HELOC you use.
→ Cash-out refinance: With a cash-out refinance, you take out a new mortgage for more than you currently owe and get the difference in cash. However, if you have a low-rate mortgage, this approach is less helpful, since you’re replacing the current mortgage with a new one at today’s higher rates.