Tax Benefits of Using a HELOC for Real Estate Investing

Leveraging financial opportunities like a Home Equity Line of Credit (HELOC) can amplify your returns. HELOCs offer flexible access to funds, and when used strategically, can help you mitigate your real estate tax impact. However, they’re not always the right strategy.

But what exactly is a HELOC, how does it work, and what are the tax benefits of a HELOC?

What Is a Home Equity Line of Credit (HELOC)?

A Home Equity Line of Credit (HELOC) is an ongoing line of credit secured against the equity in your current property. Unlike traditional loans that provide a lump sum, HELOCs allow you to borrow as much or as little as needed during the “draw period” (typically 10 years). This period is followed by a repayment period (often around 20 years) where you pay back both the principal and the interest of the money borrowed.

For real estate investors, HELOCs can be secured against either their primary residence or investment properties. However, investment property HELOCs often come with higher interest rates and stricter qualification requirements due to the perceived higher risk for lenders.

How Can Landlords Use a HELOC?

HELOCs offer flexibility, and that makes them ideal for various real estate investment strategies:

• Property Improvements: Use HELOC funds to renovate or upgrade rental properties, increasing their market value and rental income potential.
• Purchasing Additional Properties: A HELOC can serve as a down payment for acquiring new investment properties.
• Debt Consolidation: Streamline multiple debts into one manageable payment with potentially lower interest rates.
• Emergency Repairs: Access funds quickly to address urgent property maintenance issues.

In real estate, it can be challenging to accurately predict your future expenses. And while taking on more debt to fund a property isn’t ideal, potentially negatively impacting key metrics like cash flow, having the option of a HELOC can give you the financial leeway to deal with emergencies and/or improve and scale your portfolio.

Related Article: How to Use HELOC for Investment Properties

Is HELOC Interest Tax-Deductible?

Yes, real estate investors can deduct the interest part for HELOC repayments if the funds are used to “buy, build, or substantially improve” the property. 

What this means according to to IRS guidelines, if you use the HELOC to pay for rental property expenses like remodeling kitchens, upgrading HVAC systems, converting the loft, adding an extension, or otherwise improving the property, then you can deduct the loan interest (up to $750,000 of combined residential debt if filing jointly/ $375,000 if filing separately). Remember as well, while not immediately deductible, these kinds of capital expenses can be depreciated over their ‘useful life’.

Note: Loans established before 2018 may have a higher limit of up to $1 million.

If you use the HELOC funds for another purpose, such as debt consolidation, the interest repayments may not be eligible as a tax-deductible expense. If you’re unsure, make sure to consult with a licensed professional.

Specific Tax Benefits of HELOC for Rental Properties

For rental properties, HELOC interest deductions can be treated differently:

• If you use HELOC funds for improvements directly tied to your rental property’s income generation (e.g., adding amenities or upgrading interiors), the interest may qualify as a deductible business expense.
• After 2025, IRS rules are expected to relax further, allowing deductions even for general operating expenses like repairs or consolidating business debts.

HELOC vs Alternative Financing Options

Compared to other financing methods like personal loans or traditional mortgages, HELOCs offer several advantages:

• Lower Interest Rates: While rates on investment property HELOCs may be slightly higher than those on primary residences, they are often cheaper than credit cards or unsecured loans.
• Flexible Access to Funds: Borrow only what you need during the draw period without committing to a lump sum upfront.
• Tax Efficiency: The strategic use of HELOC funds can unlock valuable tax deductions that reduce your overall costs.

Best Practices for Maximizing Tax Benefits

To make the most of your HELOC and its tax advantages, here are some useful tips:

• Understand your lender’s restrictions on fund usage. Some lenders prohibit using HELOC proceeds for investments.
• Focus on improvements that directly enhance your property’s value or rental income potential.
• Avoid using HELOC funds for non-property-related expenses unless you’re willing to forego tax deductions.
• Keep invoices, receipts, and bank statements showing how every dollar was spent.
• Save Form 1098 from your lender as proof of interest payments.
• Work with an accountant familiar with real estate tax laws to ensure compliance and maximize deductions.

Potential Risks of Using a HELOC

While HELOCs offer many benefits, landlords should also consider potential risks:

• Variable Interest Rates: Most HELOCs have adjustable rates that can rise over time.
• Negative Equity Concerns: If property values decline significantly, you could owe more than your property is worth.
• Repayment Challenges: Ensure rental income covers monthly payments once principal repayment begins.

Common Questions and Misconceptions About HELOCs

If you’re still unsure if using a HELOC for real estate investing is the right choice for you, these common questions and misconceptions about HELOCs will help you decide.

Can You Use a HELOC for a Down Payment?

Yes, many investors use HELOCs to cover down payments, especially when acquiring additional rental properties. This strategy can be effective if you ensure that the cash flow from the new property will support the HELOC repayment. 

However, it's crucial to assess the financial viability of the investment and ensure that rental income can cover both the HELOC payments and other expenses associated with the property.

Is It Risky to Leverage Equity This Way?

Like any form of debt, leveraging equity through a HELOC comes with inherent risks. The primary concerns include:

• Variable Interest Rates: HELOCs typically have adjustable interest rates, which can increase over time, affecting your monthly payments.
• Negative Equity: If property values decline, you might end up owing more than your property is worth.
• Repayment Challenges: Once the draw period ends, you'll need to start repaying both interest and principal, which can strain your cash flow if not managed carefully.

To mitigate these risks, it's advisable to borrow conservatively and maintain an emergency fund to cover unexpected expenses or financial downturns.

How Does a HELOC Compare to a Cash-Out Refinance?

When deciding between a HELOC and a cash-out refinance for accessing equity, consider the following differences:

• Cash-Out Refinance: This involves replacing your existing mortgage with a new one that provides a lump sum upfront. While it offers fixed interest rates, which can be more predictable, the process is often slower and less flexible than a HELOC. Additionally, you'll need to pay closing costs and may face stricter qualification requirements.
• HELOC: A HELOC provides a revolving line of credit secured by your home's equity. It allows you to draw funds as needed during the draw period, typically without immediate principal repayment. This flexibility can be advantageous for ongoing expenses or multiple projects. However, HELOCs usually have variable interest rates, which can increase over time.

Is HELOC Interest Tax-Deductible?

HELOC interest can be tax-deductible under certain conditions. The Tax Cuts and Jobs Act (TCJA) suspended deductions for HELOC interest from 2018 to 2025 unless the funds are used to "buy, build, or substantially improve" the property securing the loan. 

For real estate investors, this means that if you use HELOC funds for eligible property improvements, you may be able to deduct the interest payments on your taxes.

HELOC: Common Misconceptions

Myth #1: HELOCs Are Only for Home Improvements

Reality: HELOCs can be used for a variety of purposes, including education expenses, debt consolidation, or even purchasing additional properties.

Myth #2: HELOCs Have Uncontrollable Interest Rates

Reality: While HELOCs typically have variable rates, many lenders offer options to convert part of the balance to a fixed rate, providing some protection against extreme rate hikes.

Myth #3: You Need Perfect Credit to Qualify

Reality: While good credit helps, lenders consider multiple factors, including income and debt-to-income ratio. You may still qualify with less-than-perfect credit, though terms might be less favorable.

How Landlord Studio Can Help You Maximize Your HELOC Potential

Using a HELOC for real estate investing is an excellent way to unlock the equity in your property and grow your portfolio. However, managing the financial and operational aspects of leveraging a HELOC can be complex. 

This is where Landlord Studio comes in—offering a suite of tools designed to simplify property management and optimize your investment strategy.

Streamlined Financial Tracking

When using a HELOC, keeping meticulous financial records is essential, especially if you want to claim tax deductions on the interest payments. 

Landlord Studio’s robust financial tracking features allow you to:

• Track Income and Expenses: Automatically sync your bank accounts to monitor cash flow in real time and ensure every dollar borrowed from your HELOC is accounted for.
• Digitize Receipts: Use the built-in receipt scanner to store and organize expense documentation, making tax season stress-free.
• Generate Financial Reports: Instantly generate customizable reports that provide insights into your portfolio’s performance, helping you evaluate the ROI on projects funded by your HELOC.
• Collaborate with your accountant or tax advisor: Easily export and share data with business partners and CPA. 

Simplify Property Management

Managing multiple properties while leveraging a HELOC can be overwhelming. Landlord Studio offers tools to streamline operations, including:

• Automated Rent Collection: Collect rent online with ease, ensuring consistent cash flow to cover HELOC payments.
• Tenant Screening: Find reliable tenants quickly with built-in tenant screening tools, reducing vacancy periods and stabilizing income.
• Maintenance Tracking: Stay on top of property improvements funded by your HELOC with organized maintenance requests and expense tracking.

Final Words: Tax Benefits of Using a HELOC

A Home Equity Line of Credit (HELOC) is more than just a financing tool—it’s a strategic asset for real estate investors looking to expand their portfolios while optimizing tax benefits. By using HELOC funds for eligible improvements and maintaining meticulous records, landlords can reduce their taxable income while enhancing their properties’ value.

Whether you’re renovating existing rentals or acquiring new ones, leveraging a HELOC wisely can unlock opportunities without straining your cash flow. As always, consult with financial and tax professionals to tailor strategies to your unique situation and make every dollar count.

If you want to take control of your real estate investments and maximize the potential of your HELOC, now is the time to explore how property management and accounting software like Landlord Studio can help. 

With features like automated rent collection, financial tracking, and maintenance management, it’s never been easier to streamline your operations and focus on growing your portfolio.

Create your free Landlord Studio account today and discover how smarter property management can elevate your real estate game.