Quick answer
A home equity loan is a loan that uses the equity in your home as collateral and pays you the whole amount as one lump sum, usually at a fixed interest rate, which you repay in regular monthly payments from the start.
It normally sits behind your existing mortgage as a second lien, which is why it is often called a second mortgage. If you cannot repay it, the lender can foreclose.
Quick facts
The plain-English version
Your equity is the share of the house you own outright: its value minus what you still owe. A home equity loan turns part of that equity into cash.
The Consumer Financial Protection Bureau defines it simply: you borrow against the equity, receive the money as a lump sum, and the rate usually does not change 4.
Because you get everything on day one and start repaying at once, the loan behaves like a small, fixed mortgage stacked on top of the one you already have. That predictability is the main reason homeowners choose it over a home equity line of credit, which is drawn as needed and usually floats.
The trade-off for an ADU is timing. An ADU budget is spent in stages over many months, so interest starts on the full amount long before the last invoice. Some owners hold the unspent money in savings; others prefer a structure that releases money as work is done.
The stack below shows where the loan sits. The first mortgage stays on top; the home equity loan ranks behind it.
- First mortgage (first lien)Stays in place with its own rate and payment
- Home equity loan (usually a second lien)Lump sum, usually fixed rate, repaid from the start 4
- Your remaining equityValue minus both loans; lenders cap how thin this can get with a CLTV limit 2
Lien order is the usual case. Your title report shows the actual order on your home. Source: [4] [2]
Worked example: sizing the loan with combined loan-to-value
Lenders cap the total of all loans on the home as a share of its appraised value, the combined loan-to-value ratio (CLTV). Every figure here is a hypothetical dollar amount or policy, used only for the arithmetic; none is a typical price, balance or lender limit.
| Step | Hypothetical input | Arithmetic |
|---|---|---|
| Appraised value | 650,000 | — |
| First-mortgage balance | 300,000 | LTV = 300,000 ÷ 650,000 ≈ 46% |
| Lender CLTV ceiling | 85% (each lender sets its own) | 0.85 × 650,000 = 552,500 total allowed |
| Largest possible loan | 552,500 − 300,000 | 252,500 |
| ADU bid (hypothetical) | 310,000 | Shortfall = 310,000 − 252,500 = 57,500 from savings or another source |
Max loan = (V × CLTV) − B
V- Appraised value of the home today, in dollars
CLTV- The lender’s combined loan-to-value ceiling, as a decimal
B- Balance of every loan already on the home, in dollars
Example with the hypothetical inputs above: (650,000 × 0.85) − 300,000 = 252,500. Closing costs then reduce the cash you receive.
The shortfall row is the point: the loan is sized on the house as it stands, not on the value the ADU might add. Get a realistic budget range from the ADU cost calculator and test value effects on the do ADUs add value research page before you sign.
Home equity loan versus HELOC versus cash-out refinance
| Feature | Home equity loan | HELOC | Cash-out refinance |
|---|---|---|---|
| Payout | Lump sum | Draw as needed | Cash difference at closing |
| Rate (usual) | Fixed | Variable | Whatever the new first mortgage carries |
| First mortgage | Kept | Kept | Replaced |
| Payments start | Right away on the full amount | On what you have drawn | On the whole new mortgage |
Strengths and limits for an ADU
What it does well
- A fixed payment you can plan around for the life of the loan.
- Leaves a low-rate first mortgage untouched.
- Simple: one closing, one amount, no draw inspections.
Where it falls short
- Interest accrues on the full amount while most of it waits for construction.
- No second draw if the project runs over budget; you would need a new loan.
- Sized on current value, so it may not cover a detached new build.
- Your home is the collateral; default can mean foreclosure 4.
Where the key terms appear when you apply
- The Loan Estimate shows the loan amount, the rate and whether it can change, and the monthly payment.
- The appraisal sets the value the CLTV is calculated from.
- The closing costs section lists appraisal, title and origination charges, which reduce the cash you actually receive.
- The note and deed of trust (in California) or mortgage record the lien on your home.
Compare the amount you net after closing costs against your ADU cost estimate, not the headline loan amount.
Why it matters for your ADU budget
Most owners do not have the full cost of an ADU in cash. Equity is often the biggest pot of money they have. A home equity loan is one of the simplest ways to reach it.
The simple part is the payment. It is usually fixed, so you know what you will pay each month for the whole loan 4. That makes it easier to test whether rent from the ADU could cover it.
The hard part is the amount. You borrow once. If the build costs more, you cannot go back to the same loan for more money.
How a home equity loan works, step by step
- Work out your rough equity: home value minus your mortgage balance.
- Ask two or three lenders for a Loan Estimate, a standard form that shows the loan terms and costs 1.
- Apply. The lender checks your income, debts and credit.
- The lender gets a value for the home, often through an appraisal.
- The lender sets the loan amount using its combined loan-to-value limit 2.
- You close. Closing costs come out, and the rest is paid to you as one lump sum.
- Fixed monthly payments start right away 5.
Types and variations
| Variation | What it means | Watch for |
|---|---|---|
| Fixed-rate home equity loan | The common version: one rate for the life of the loan 4 | Higher payment than an interest-only line at the start |
| Shorter term | Fewer years to repay | Higher monthly payment, less total interest |
| Longer term | More years to repay | Lower payment, more total interest |
| Piggyback with a HELOC | Some owners use a loan for the known costs and a line for extras | Two sets of fees and two lenders’ rules |
Worked example: interest on money you have not spent yet
All numbers are hypothetical, used only for the arithmetic. They are not current rates or typical ADU costs. Assume a 200,000 lump sum at a hypothetical 8% a year. Interest is shown in the simplest form: balance × 8% ÷ 12.
| Month | Money spent on the ADU so far | Interest you pay that month on the full loan |
|---|---|---|
| 1 (design) | 15,000 | About 1,333 |
| 3 (permits) | 30,000 | About 1,333 |
| 6 (foundation and framing) | 110,000 | About 1,333 |
| 10 (finish) | 200,000 | About 1,333 |
You pay interest on the full 200,000 from month one, even while most of it sits in the bank. Savings interest on the unspent cash can offset some of this. A HELOC would charge interest only on what you have drawn, but usually at a rate that can change.
Rules: federal, California and other states
Home equity loans follow federal disclosure rules in every state. The Loan Estimate is the standard form for comparing mortgage offers line by line 1. Ask each lender for one.
California does not have an ADU-only rule for home equity loans. In California, the lien is usually recorded with a deed of trust. Other states may use a mortgage document. State lending rules vary; this page does not cover them.
This is education, not financial or legal advice. The lender decides what you qualify for.
What it costs, and what drives the cost
You pay interest, plus closing costs. Closing costs can include an appraisal, title work and origination charges (the lender’s fee for making the loan). Page 2 of the Loan Estimate lists them 1.
Three things drive the total. The rate. The term, or how many years you take to repay. And the amount, which should match your real budget, not the most the lender will offer.
Borrowing more than you need costs money every month. Borrowing too little can leave the build stuck. Size it from a real bid plus a reserve.
Common mistakes
- Myth “The loan amount is what I get.”
- Reality Closing costs come out first. Compare the cash you net, not the headline amount 1.
- Myth “I can top it up later.”
- Reality A home equity loan is paid once. More money means a new loan or another product.
- Myth “The ADU’s future value counts.”
- Reality The loan is sized on what the home is worth now.
- Myth “Fixed means risk-free.”
- Reality The payment is fixed, but your home is still the collateral 4.
What to ask a lender
- What combined loan-to-value limit do you use?
- How will you value my home, and who pays for it?
- What are the total closing costs, and how much cash will I net?
- Is the rate fixed for the whole term?
- Is there a prepayment penalty (a fee for paying the loan off early)?
- How long from application to funding?
- Will you count future ADU rent as income?
Checklist for your ADU project
- Get a full ADU budget, including soft costs and city fees.
- Add a reserve for overruns and change orders.
- Compare that total with what your equity supports.
- Collect at least two Loan Estimates and compare page 1 and page 2.
- Close the loan before you sign the build contract, so the money is certain.
- Keep the unspent cash in a separate account and pay bills from it.
Key takeaways
- A home equity loan pays one lump sum, usually at a fixed rate 4.
- Payments start right away on the full amount.
- It keeps your first mortgage in place.
- It is sized on today’s home value, so check it covers the full ADU budget.
- Your home is the collateral. Missing payments can lead to foreclosure.
Keep going
- Financing comparison toolLump sum, line, refinance and construction loan compared
- ADU financing landscapeHow lenders and appraisers treat ADUs
- ADU financing hub
- What an ADU costsCost drivers before you size a loan
Questions about home equity loan
Is a home equity loan the same as a second mortgage?
Usually, yes. A home equity loan is secured by your house and normally ranks behind the first mortgage, which is what makes it a second mortgage. A HELOC can also be a second mortgage; the difference is that it is a revolving line rather than a lump sum.
Can I use a home equity loan to build an ADU?
Yes. Lenders generally do not restrict how you spend it. The question is whether the amount your equity supports covers the build after closing costs, and if you can live with paying interest on the full amount from day one.
Should I choose a home equity loan or a HELOC for an ADU?
A home equity loan suits a fixed, known budget and a preference for a fixed payment. A HELOC suits staged spending and uncertainty, at the cost of a usually variable rate and the lender’s right to freeze the line.
How much can I borrow with a home equity loan?
It depends on your home’s appraised value, your current mortgage balance, your income and the lender’s combined loan-to-value limit, which each lender sets. The worked example above shows the arithmetic.
What are the disadvantages of a home equity loan?
You pay interest on the full amount from day one, even on money not yet spent. You cannot borrow more from the same loan if costs rise. Closing costs apply. And your home secures the loan, so missing payments can lead to foreclosure.
Is a home equity loan fixed or variable?
Usually fixed, according to the CFPB. That means the monthly payment stays the same for the life of the loan. Check the Loan Estimate, which states whether the rate can change.
Do I need an appraisal for a home equity loan?
Lenders need a value for your home to size the loan. Many order an appraisal; some use other valuation methods. The Loan Estimate and the lender will tell you which, and who pays.
Does a home equity loan affect my first mortgage?
No. Your first mortgage stays in place with its rate and payment. The home equity loan is a separate loan, usually in second position behind it.
How long does it take to get a home equity loan?
It varies by lender and by how fast the home is valued. Ask each lender for its usual time from application to funding, and allow for it before you sign a build contract.
Sources
- Consumer Financial Protection Bureau, Loan Estimate explainer, retrieved .
- Consumer Financial Protection Bureau, What is a loan-to-value ratio?, retrieved .
- Consumer Financial Protection Bureau, What is a home equity line of credit (HELOC)?, retrieved .
- Consumer Financial Protection Bureau, What is a home equity loan?, retrieved .
- Consumer Financial Protection Bureau, What other types of loans are similar to a HELOC?, retrieved .
Expert review
Written by the HyreADU Research team. Not yet reviewed by an outside expert. We say so rather than imply a review that has not happened; see our editorial policy.
How the numbers were checked: Definitions from CFPB pages read on 7 October 2026. The worked example uses labelled hypothetical numbers for arithmetic only. No rates quoted. Education, not financial advice.
Suggest a correction. We fix errors and say what changed.