Why You Shouldn’t Use a HELOC for Small Business Expenses

This post is a revised version of an article originally published on Forbes by National Business Capital’s CEO, Joe Camberato. It was updated in September 2023 to include the most relevant data. To view the original article, click here.

When you have a new opportunity to pursue or challenge to solve in your small business, working capital or a credit card doesn’t always cut it. Sometimes, you need to tap into external funding sources in order to foot the bill. If your credit score doesn’t meet standard requirements, or you’re going through other financial challenges, then you may consider getting a HELOC to cover business expenses.

Rather than borrowing money against your business, a HELOC enables you to borrow against the value of your home. While this doesn’t put your business in a bind, and is accessible, it can complicate your personal financial well-being in unforeseen ways.

To keep your personal finances separated from your business, you shouldn’t take out a HELOC for small business expenses. Instead, consider other readily accessible financing options that enable you to borrow money quickly, at a lower cost, and without jeopardizing your home, like FinTech lending/alternative financing.

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

Before getting into exactly why you shouldn’t utilize a home equity loan or line of credit, it’s important to understand how it works and what that means for you.

First and foremost, a HELOC is not comparable to most other small business loans and financing options on the market. When you borrow a HELOC or a home equity line of credit, you’re borrowing capital against the value of your own home.

If you default on the payments, then the lender could foreclose on your home. So, in effect, taking a HELOC is like taking a second mortgage.

While some business owners put HELOC funding toward business-related expenses, HELOCs aren’t limited to business expenses. They can actually be put toward a number of things. It’s not uncommon to put HELOC funding toward personal expenses, like home renovations and college tuition.

Despite these differences, HELOCs function the same way that business lines of credit do. Borrowers can draw funding as they need it instead of taking a large sum of money like they might with a term loan.

Why Some Business Owners Take HELOCs For Business Expenses

For cash-strapped business owners who need a fast and easy solution, taking a HELOC might appear to be the best choice. After all, HELOCs are an accessible way to pay down business expenses without the same obstacles as other options.

For one, your credit score isn’t a make-or-break factor. Even with a low credit score, you can qualify for a HELOC. This is because you’re borrowing against the equity in your home, meaning your home functions as the lender’s safety net in the event you can’t make payments. In some cases, interest paid on a HELOC is tax deductible.

According to American Banker, Americans aren’t tapping their home equity at the rate they did in previous years—and for good reason.

HELOC in 2008: Why Did Small Business Owners Suffer?

During the 2008 Great Recession, many small business owners were in dire need of cash. Banks were hesitant to lend, considering that most borrowers didn’t meet credit requirements, and the market outlook wasn’t exactly positive. At the time, fintech lending wasn’t exactly a well-known or realistic option for many business owners.

Without any other choices available, many small business owners obtained a HELOC to put toward business expenses.

When these business owners continued to face a challenging economy, many were still unable to pay down these business expenses, as well as their HELOCs. As a result, they lost both their businesses and their homes.

At the time, HELOCs were not heavily regulated. Business owners were allowed to borrow against 100% of the equity in their homes.

New regulations only allow business owners to borrow against 80% of their total home equity, making this a slightly safer option, but the evolution of fintech has given business owners even more borrowing options.

Why You Shouldn’t Use HELOC for Business Expenses: Risks and Drawbacks

Leveraging the value of your home for business expenses might sound like a great idea at first, but there are many risks that come along with this plan. Here are some of the most prominent.

• Risk of Losing Your Home – As discussed above, encountering cash flow issues in your business can prevent you from paying your HELOC balance and cause you to lose your home.
• Mixing Personal/Business Finances – Business lenders want to see consistent deposits in your business bank accounts to offer financing. Mixing personal funds isn’t just confusing; It can also be the reason for your denied business financing application.
• Dampened Home Equity – Tying your home equity into business expenses reduces the value of your home. If something unexpected happens and you have to sell, you’ll need to quickly recoup what you took to mitigate the financial loss.
• Limited Tax Benefits – Business financing generally has better tax advantages than HELOCs and other personal financing. By leveraging your HELOC instead of a loan, you’re missing out on potential savings.

HELOCs for Business Expenses: A Costly Option Beyond Risk

Taking a HELOC can put both your home and business in a bind, but it’s also heavier on your wallet than other options.

Consider getting a HELOC at a 6.25% interest rate, which you’ll pay back over a 20 year term. At first glance, this might seem like a relatively low rate with a reasonable payment term, but when you dig deeper, you’ll find that it’s actually not as reasonable as you might think.

But when you’re calculating interest payments for HELOC products, you need to remember that you have a variable, not fixed, interest rate.

All things said and done, your total payback amount would be $227,040. That means the $100K HELOC cost $127,040.

When you have both your home and business to consider, stacking mortgages is never a good idea. Instead of saving money earned through your business, it makes more financial sense to put as much as you can back into principal right away than to make minimum payments.

Overlooking this cost can be a big misstep. To get the best advice for your business, be sure to speak with a financing or accounting specialist about your situation.

Don’t Borrow Against Your Home, Borrow Against Your Business

Rather than borrowing money for your business against the value of your home, borrow against your business.

As a general rule of thumb, keeping your business and personal finances separate by borrowing against your business is ideal. Even in a worst-case scenario where you can’t generate enough income through products and services to pay the balance of your loan, you aren’t risking the possibility of losing your home as well.

Applying through a fintech lender prevents this risk and makes the funding process fast, simple, and convenient. Unlike getting a bank loan, fintech lenders can help you learn your options and get funded in just a few hours.

National offers unsecured lines of credit, meaning you can obtain financing without having to put down collateral. Even without a building or other business asset, you can borrow money to put toward resolving a challenge, or pursuing an opportunity.

What Are HELOC Alternatives for Small Business Expenses?

Instead of a HELOC, consider using these alternatives for your small business goals.

• Business Term Loans – Funding provided in a one-time, lump-sum format repaid over a set schedule.
• Business Line of Credit – Flexible financing to draw capital on an as-needed basis and only pay interest on the amount borrowed.
• Revenue-Based Financing – While not a loan, revenue-based financing offers a lump sum of funds for any business purpose, with the borrower repaying the amount through small deductions from their daily sales.
• Equipment Financing – If you need equipment, you can leverage equipment financing to break down the cost over a more manageable schedule.
• Receivable Financing – Businesses with current receivables can either sell their invoices to a factoring company or leverage their value as collateral for a loan.

Find the Best Deal on a Line of Credit Through National’s 75+ Lender Marketplace

At National Business Capital, our goal is to help your business receive the smartest financing option based on your needs and challenges.

Working with our exclusive lender relationships, we can help you learn your options in minutes and get funding in as little as a few hours.

You can learn your options without any obligation and save valuable time you could put toward your business.

To get started learning your options and get your business financed, apply now!

The information provided here is not investment, tax, or financial advice. You should consult with a licensed professional for advice concerning your specific situation.