Is a HELOC Considered Taxable Income?

A Home Equity Line of Credit, or HELOC, functions as a revolving credit line secured by the equity in your home. It allows homeowners to borrow funds as needed, up to a set limit, and repay them over time, similar to a credit card. A common question concerns its tax implications. Generally, the funds received from a HELOC are not considered taxable income.

Understanding Loan Proceeds and Taxable Income

HELOC funds are not taxable income because they are loans. When you receive money through a loan, it creates a liability—an obligation to repay the borrowed amount. This differs from actual income, which represents earnings or gains that increase your net worth. Wages, investment profits, or business income are examples of taxable income because they directly contribute to your financial gain.

Borrowed money, whether from a HELOC, car loan, or personal loan, does not increase your wealth; it provides temporary access to funds that must be returned. For instance, a personal loan for debt consolidation or a major expense does not result in a tax liability on the principal. The IRS views these transactions as debt, not earned income. Therefore, money drawn from a HELOC is generally not reported as income on your tax return.

Tax Deductibility of HELOC Interest

While the principal of a HELOC is not taxable income, the interest paid can have specific tax implications. Under current tax law, HELOC interest may be tax-deductible if funds are used to buy, build, or substantially improve the home securing the loan. This applies to both primary and second homes. However, if HELOC funds are used for other purposes, such as consolidating credit card debt or financing a vacation, the interest is typically not deductible.

The Tax Cuts and Jobs Act (TCJA) of 2017 changed the rules for deducting HELOC interest, with these changes generally in effect through the end of 2025. Before this act, interest on up to $100,000 of home equity debt was deductible regardless of how the funds were used. Currently, the deduction is limited to interest on qualified home indebtedness, which includes your primary mortgage and any home equity debt used for home acquisition or improvement. The total debt on which interest can be deducted is capped at $750,000 ($375,000 for married individuals filing separately) for loans taken out after December 15, 2017. A higher limit of $1 million ($500,000 for married filing separately) may apply for mortgages taken out before this date.

To claim this deduction, homeowners must itemize deductions on their federal income tax return, rather than taking the standard deduction. Maintain records, such as receipts and contractor invoices, to demonstrate that HELOC funds were used for qualifying home improvements. This documentation is important if the IRS requires verification. The IRS provides further guidance on home mortgage interest deductions in Publication 936.

Tax Considerations for HELOC Fund Application

While receiving HELOC funds is not a taxable event, their specific application can indirectly influence a taxpayer’s financial picture. For example, if HELOC funds are used for business expenses, the interest paid may be deductible as a business expense. This applies if funds are exclusively used for legitimate business purposes, such as purchasing inventory or equipment, and proper records are maintained.

Similarly, if HELOC funds are channeled into investments, the interest might be deductible as investment interest expense. This deduction is typically limited to the amount of net investment income and generally requires that investments are taxable, not held in tax-advantaged accounts like IRAs or 401(k)s. Tracing rules are often applied to determine if the interest is directly attributable to investment activities.

When selling a home with an outstanding HELOC, repayment from sale proceeds is not a taxable event. However, the home sale has its own tax rules, primarily concerning capital gains. If HELOC funds were used for substantial home improvements, these costs can be added to the home’s cost basis, which could reduce potential capital gains tax liability upon sale. This is because capital improvements increase the adjusted cost basis of the property, decreasing the taxable gain.