5 ways you can use your home equity to prepare for retirement

Home equity loans can be a particularly smart tool to borrow money with these days. While rates on credit cards hover above 23% currently, a record high, home equity loan rates are less than half that on average right now, allowing you to borrow cash without breaking the bank.

The cash created out of your home's equity can be used for any purpose, too — paying for home improvements, funding a small business, or, in the right situation, even preparing for retirement. 

But what exactly should you use your home's equity for when you're trying to prepare for retirement? There are a few different uses that can make sense.

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5 ways you can use your home equity to prepare for retirement 

Do you have untapped home equity? Here are five ways you may be able to use it toward your retirement goals:

Use it to create a regular income stream

Retirement is typically a period of limited income. You may be solely reliant on Social Security benefits, or you may have some retirement savings to pull from, but typically, you're no longer bringing in regular earnings.

Your equity can help with this problem, allowing you to create a regular income stream you can rely on.

One way to do this is with a reverse mortgage, a type of loan for seniors in which the lender allows you to borrow from your home equity but you don't make monthly payments on the loan. You can generally choose monthly payments, a lump sum or a line of credit — whichever works best for your budget.

"These options are great for people who have a significant amount of equity and want or need more cash flow on a monthly basis in retirement," says Darren Tooley, a loan officer with Union Home Mortgage.

Home equity loans and home equity lines of credit (HELOCs) can also turn your equity into cash, though neither comes with the monthly payment option that reverse mortgages do. They also require regular monthly payments to your lender. (Reverse mortgages don't require you to pay up until you move out of the home or pass away.) 

Learn more about your home equity borrowing options online now.

Cash in and beef up your investments

You can also turn your home equity in cash with a home equity loan, HELOC or cash-out refinance, and then put that money into other investments that could potentially earn you some profit.

"Home equity can also be leveraged in other ways, like borrowing against it to put into various investment vehicles to fund your retirement," Tooley says.

Just make sure to do your research beforehand. Your home will appreciate in value over time, which increases your equity, too. If you're using your equity to fund other investments, you'll want to make sure you're choosing investments that have a higher potential yield than the appreciation you'd see on your home. Talk to a financial professional if you need help making the right investment moves.

Give yourself a financial safety net 

Home equity can also give you a financial safety net in case you fall on hard times. In this situation, you'd want to use a HELOC or reverse mortgage to create a line of credit, which would allow you to withdraw money as needed over an extended period of time. (HELOC draw periods are typically only 10 years, so if you want access to cash longer than that, a reverse mortgage is likely best). 

"The best way to use home equity is as a safety net," says Stephan Shipe, owner of Scholar Financial Advising. "It's not something that is ever expected to be used but acts as a failsafe to fall back on."

One of the "strategic advantages" of having this financial safety net is that you can use it to weather downturns in other markets. Matthew Argyle, founder of Encore Retirement Planning, calls this "managing sequence of returns risk." 

"This refers to the financial benefit of avoiding stock sales during market downturns by relying on other sources of income, like your home equity," Argyle says.

Reduce your housing costs

You can also use your home equity to reduce your housing costs in retirement. A reverse mortgage, for example, doesn't require payment until you move out or pass away, so it eliminates the need for a monthly housing payment.

You can also cash in on your equity by selling your house and downsizing or renting a more affordable property, thereby reducing your monthly housing costs that way. 

"It's common that when homeowners are contemplating retirement, they will often look to sell their current home and either downsize to a smaller home or move into something more manageable both financially and for maintenance," Tooley says. "Depending on the amount of equity these retirees have built up, it could allow them to make a significant down payment, making the housing expenses more comfortable throughout their retirement."

Consolidate debts to free up monthly cash

Last but not least, you can use your equity to better manage your debts while retired. To do this, you'd use a home equity loan, HELOC or cash-out refinance to turn your equity into cash, and then use those funds to pay off your credit cards and other loan balances. 

"Home equity can help improve cash flow as you approach retirement, especially if you're carrying debts like car or student loans," says Nate Towers, director at Five Pathways Financial. 

Using a home equity loan or HELOC to pay off other debts essentially rolls them into one single monthly payment, making it easier to manage once retired. In many cases, it reduces the interest rate you pay, too. (The average rate on credit cards right now is almost 24%, for example. If you traded that in for a home equity loan, you'd pay just 8% to 9% on average.)

The bottom line

If you do decide to use your home equity by taking out a home equity loan, HELOC, cash-out refinance or reverse mortgage, make sure you know the risks. All these loans use your home as collateral, so if you fail to abide by the loan's terms, you could lose your home to foreclosure.

Additionally, know that using your home equity will mean fewer sales profits later on — and less to leave behind for your heirs.

"It's crucial to approach this with caution, as tapping into home equity reduces the value of your primary asset," Shipe says. "The risks include the possibility of outliving the equity, the impact on inheritance for heirs, and the potential for accumulating debt if not managed carefully."