Home Equity Loan vs. HELOC for downpayment on next rental prop?

[Ana Marie B.]

Hi BP!  My husband and I live in the SF Bay Area where home prices have risen substantially in past years.  We want to leverage some of our home equity and use that equity as down payment for our 2nd rental prop.  We're thinking of drawing ballpark $50-70k.  

We contacted Wells Fargo Bank and a local credit union for ideas on interest rates. Seems like HELOC rates are much lower and so we're leaning toward that direction. Also both banks provide the opportunity to switch to fixed rates at a later time, granted we keep the HELOC open for at least 3 yrs.

Wondering if any BP members have done something similar? Pros/cons of HELOC vs. regular home equity loan for using as down payment on a rental prop. Thanks in advance!

[Edward B.]

HELOCs typically have a lower interest rate because they are variable. Since all the talk recently is about the fed raising rates you need to make sure you understand that your payment will go up when rates go up.

I almost always recommend the HELOC over a Home Equity Loan for the sheer flexibility that it offers. The payments are usually lower because of the lower rate and because most are interest only for the draw period. I have seen some with a minimum based on the outstanding balance though so know what you are getting.

The key for me, though, is that you can reuse the HELOC over and over. If you choose to pay it off or down faster, you can access that money again at your whim. With a home equity loan if you pay it down faster you can not get that money back without going back to the bank. This makes the HELOC better suited for flipping strategies (i.e. fix and flips or BRRRR) but it can still be used for buy and holds where you want to pay the loan down faster with extra cash and then reuse for a downpayment on another property. Also, if you aren't using the money (i.e. you have it paid off right now) it costs you nothing to have the loan except perhaps a small annual fee, although none of my HELOCs have annual fees. With a home equity loan you will be making the monthly payments and incurring the interest regardless of whether or not you are using the money.

Ed