How to Use Home Equity to Buy Stocks and Diversify Your Portfolio

Article Summary:

You can potentially turn your home’s equity into more money by drawing on the equity to invest in the stock market. There are several ways to do this, including a home equity loan, a line of credit, a cash-out refinance, or a shared equity agreement. If you decide to use your home equity to buy stocks, be sure you understand the risks and pursue a solid investment strategy.

If you are fortunate enough to own your home and have built up a significant amount of equity, you could be missing out on an opportunity to turn your equity into even more money. Given the rise in housing prices over the last few years, you could be sitting on a lot of money that you could invest into the stock market instead. This could be an especially good opportunity if you haven’t invested in much besides a home and would like to diversify your portfolio.

There are many ways to draw on the equity in your home, from a home equity loan or line of credit to a shared equity agreement. But there are significant risks involved, so be sure to review all of your options and make calculated investments with the money.

What is home equity?

Home equity is the difference between what the home is worth and what you owe on your mortgage. So if your home is valued at $600,000 and you have $400,000 left on your mortgage, then you have $200,000 in equity.

Typically, lenders will only let you borrow in the range of 80% to 85% of the equity in your home. So if your bank limits you to 80%, your $200,000 of equity would be limited to $160,000.

Pro Tip

Keep in mind that with certain types of loans, you may have to pay fees (appraisal costs or origination fees) or closing costs that could reduce the amount you can borrow even further.

How to use home equity for investments

Once you determine how much equity you have in your home, you’ll want to decide how much money you want to borrow and invest. Unlike a situation where you are cashing out your home equity to purchase an investment property or vacation home, you may not want to borrow a huge amount of money to buy stocks.

Instead, try to go for a percentage of the equity or a dollar amount that feels comfortable to you. Then you can decide which method you would like to use to borrow against the home equity. Here are some of your best options.

Home equity line of credit

A home equity line of credit, or HELOC, is a great option when you want to draw on the money you borrow at your own pace rather than in one lump sum. You use the HELOC like a credit card and pay interest on the amount you use. The interest rates are typically much lower than those of regular credit cards because the debt is secured with your home.

If you go the HELOC route, you could start by investing part of the money in the stock market. If you feel comfortable with your initial investment, you could expand your portfolio with additional stocks, withdrawing more money from the HELOC each time.

IMPORTANT! Keep in mind that a HELOC can have a different repayment structure than other loans. During your draw period, which typically lasts between five and 10 years, you only make payments on the interest accumulated. Once the draw period ends, you’ll have to repay the total loan amount, which you’ll usually have between 10 and 20 years to do.

Cash-out refinance

Another option is a cash-out refinance, in which you refinance your mortgage and take out a new larger loan. You’ll then receive a check for the amount of equity you’re allowed to borrow. To qualify for the lowest interest rate, you’ll need to have a good to excellent credit score. In addition to great credit, make sure you have enough equity built up that you don’t have to pay mortgage insurance on the new higher amount.

With this option, you may be tempted to spend the lump sum all at once, so be careful about how you decide to invest the money. You might want to seek professional help with financial planning before you buy any stocks.

Home equity loan

You could also take out a traditional home equity loan (also called a second mortgage) on your home. In this case, you would have a second mortgage payment with a fixed interest rate on top of your existing mortgage. You would receive the money from the new loan in a lump sum.

The interest rates are usually pretty low on this type of loan compared to a personal loan (again, because the loan is secured with the house). You won’t have the flexibility of a HELOC, though, and you might have to pay a large chunk of closing costs.

Shared equity agreement

If the above options don’t seem right for you, you do have an alternative to the more well-known methods for cashing in on your home’s equity. You can enter a shared equity agreement with an investor.

In exchange for a one-time cash payment, the investor receives a share in the future value of the home. When the home eventually sells or the contract ends, the homeowner agrees to pay the investor’s initial investment and a fixed percentage of the change in home value. If market conditions are good, you can both walk away with a large profit.

You don’t have to worry about any changes to your interest rates or monthly payments, as everything will be dealt with in the future. You can use your lump sum right away for any stock market investments you want to make. Keep in mind that you usually have to have at least 25% equity in your home to qualify for a shared equity agreement.

Pro Tip

You can use your home equity to fund other purchases, too. Learn about some ways to use your home equity to buy a car, fund a home renovation, or consolidate your debts.

Pros and cons of using home equity for investments

Before you decide to use the money from your home’s equity to expand your investment portfolio, be sure you understand the risks and benefits.

WEIGH THE RISKS AND BENEFITS

Here is a list of the benefits and drawbacks to consider.

Pros
  • It puts your home’s untapped equity to use, potentially allowing you to grow your wealth.
  • Many home equity loans and lines of credit have lower interest rates than other types of loans or credit cards.
  • If you don’t have many investments, you can diversify your portfolio.
  • You’ll probably be able to access a larger pool of cash than if you were just saving money.
  • There could be several potential tax benefits available to this kind of investing.
Cons
  • If the market falls, you could potentially lose a lot of money. In the worst-case scenario, you could lose your home.
  • You may have to manage a higher monthly mortgage payment or a second mortgage.
  • You might wish you had that money for something else, like a home repair emergency.
  • The interest you pay on your loan may reduce your profits, especially if your interest rate is variable and goes up over time.
  • You will have to pay some fees and possibly closing costs to borrow the money.

How to improve your investment portfolio

You’ve got the money from your home — now what do you do with it? You can’t predict the future, but you can be smart about your investments. Here are some ways to make the most of your investments and build wealth.

Play it safe

You’re putting up your house as collateral, so you don’t want to sink that money into a risky investment that has a high chance of failing. Instead of putting all your eggs into one basket, like the latest trendy cryptocurrency, think about your financial goals and how you can meet them with your investment portfolio.

A financial advisor or certified financial planner can help you determine your risk level and thus your asset allocation with different investments.

Invest in a diversified portfolio of index funds

One way to carefully invest in the stock market is to purchase shares of index funds. Instead of buying individual stocks, you invest in a fund that tracks indexes like the S&P 500.

Many online brokerages make it easy to build your portfolio and start investing in ETFs or mutual funds. You may have to pay some fees or meet a minimum investment requirement, so be sure to research your options before you sign up.

Don’t spend too much

Remember, if you use up all of the money in your lump sum payment or HELOC, you won’t have any left for home repairs. You would hate to be faced with a leaky roof or broken pipe and no money to fix it. It might be best to allocate a percentage of the money for your investments and save the rest.

Give yourself time

The stock market can move up or down, and you could be faced with some financial losses. Make sure that you will be in your home long enough to make up for any losses.

Otherwise, you could be faced with an extra-large mortgage payment and no extra money coming in. In the case of a shared equity agreement, your investor could lose money too.

Speak to a tax professional

Some people can deduct the interest on their home equity loans, but the money has to be used to improve the home. So that doesn’t help you if you use your money to buy stocks. But you may be able to find other ways to save money at tax time (either on interest or capital gains) by speaking to a tax professional.

FAQs

Can I use my HELOC to buy stocks?

Once you have the money from a home equity line of credit, you can spend it on anything you want, including stocks. However, if you do not spend it on improving your home, you will not be able to deduct the interest on your taxes.

How do you create a diverse stock portfolio?

Fortunately, instead of buying individual stocks, you can invest in index funds. A fund is a portfolio in which you, the average investor, can buy shares. Buying into a fund gives you the services of a portfolio manager at a reasonable price with minimum investment. Many apps allow you to invest in these funds with only a few dollars at a time.

Can you use a home equity loan for anything?

You can use a home equity loan for anything you want. But again, if you want to be able to deduct the interest on your taxes, the IRS says you must use the money to “buy, build, or substantially improve” the home.

How can I get the equity out of my home without selling it?

You have several options, including a home equity loan, a home equity line of credit, a cash-out refinance, or a shared equity agreement. Depending on whether you want a lump sum or a flexible line of credit and how you want to repay the money, you can decide which option is right for you.

Key Takeaways

  • If you’ve accumulated some equity in your home, you can use it to invest in the stock market and potentially grow your wealth.
  • A home equity line of credit is a good option because you have the flexibility to withdraw money whenever you want with a low-interest rate.
  • You can also get a lump sum to invest with a home equity loan, a cash-out refinance, or a shared equity agreement.
  • Be aware that you risk losing money if the stock market drops and in the worst-case scenario, you could lose your home.
  • The best way to diversify your portfolio is to skip the risky single stocks and invest in a combination of index funds, mutual funds, or other investments.
View Article Sources
  1. Home Equity Loans and Home Equity Lines of Credit — Federal Deposit Insurance Corporation
  2. What is a home equity loan? — HelpwithMyBank.gov
  3. Reverse Mortgage vs. Home Equity Loan vs. HELOC: Pros & Cons — SuperMoney
  4. Home Equity Loan vs. Line of Credit: Which Should You Choose? — SuperMoney
  5. Is It Wise To Use A Home Equity Loan For Debt Consolidation? — SuperMoney
  6. What Is a Second Mortgage? (And How To Get One) — SuperMoney
  7. How to Tap Into Your Home Equity Without Getting Into Debt — SuperMoney
  8. How to Use Home Equity to Buy a Second Property — SuperMoney
  9. How to Use Home Equity to Fund a Home Renovation — SuperMoney
  10. How To Use Equity in Your House To Invest in Your Business — SuperMoney
  11. Five Key Principles Of Smart Investing — SuperMoney
  12. How To Invest In The Stock Market: 8 Basic Concepts — SuperMoney
  13. Beginner’s Guide to Investing — SuperMoney