The Home Loan Expert Loan Calculator
If you are a homeowner in need of cash for unexpected expenses, debt consolidation, or home improvements, you may be wondering whether a cash-out refinance vs. home equity line of credit is the best way to access the equity in your home. Depending on your needs and circumstances, cash-out refinancing or a home equity line of credit may be a great way to get the cash you need. Today we’ll examine HELOC vs. cash-out refinance to help you understand your options.
What’s a Cash-Out Refinance?
A cash-out refinance (also called a cash-out refi) is a new mortgage on your home. You borrow enough on the new mortgage to pay off the old mortgage, plus some extra (the “cash-out) for your immediate needs.
The new cash-out mortgage replaces your existing mortgage, and gives you additional funds based on the equity in your home. You make a single monthly mortgage payment on the newly refinanced amount.
What’s a Home Equity Line of Credit?
A home equity line of credit (also called a HELOC) is a new line of credit based on the equity in your home. You are allowed to charge expenses against this line of credit during the draw period (usually 10 years), and then pay it off during the repayment period (usually 20 years).
During the draw period, you can charge expenses against this line of credit, and you can often make monthly interest payments. During the repayment period, you repay the principal plus interest, in addition to making your regular mortgage payments.
Similarities and Differences Between a Cash-Out Refinance vs. HELOC
Both a cash-out refinance and a home equity line of credit allow you to access the equity in your home, using the money right now and paying it off later. Here are some of the key similarities between a cash-out refi vs. HELOC:
- Loan to value ratio. Because both types of loans are secured by the value of your home, both rely on a good “loan to value” ratio. The lender will calculate the percentage of your home that is debt-free, vs. the percentage of your home that is under a debt obligation. For example, if your home is worth $200,000, and the balance on your mortgage is $100,000, you will have a loan to value ratio of 50%. Many lenders require a loan to value ratio of 80% or less before loaning money against the home equity.
- Your credit score. Because cash-out refis and HELOCs are both secured by the value of your home, your credit score may have a slightly reduced impact on your overall loan eligibility. However, as always, your credit score will probably affect your interest rates. You will need to have a decent credit score and a good debt-to-income ratio for either type of loan.
- Risk of foreclosure. Whether you choose a cash-out refinance or a home equity line of credit, your home is the collateral against the loan. Failure to make payments may lead to foreclosure.
Despite these similarities, there are also many differences between HELOC vs. cash-out refinance. Here are the biggest differences:
- One payment or two. If you choose a cash-out refi, it will replace your mortgage payment and you will continue making a single monthly payment. If you choose a HELOC, you will need to make a second monthly payment in addition to your mortgage payment. In most cases, you aren’t required to begin paying on a HELOC until it enters the repayment period, but it is a line of credit that is in addition to your mortgage, not included in it.
- Interest rates. Because a cash-out refinance is simply a new mortgage, it typically has low, fixed interest rates. Because a home equity line of credit is revolving credit, it typically has higher, variable interest rates.
- Fees and costs. Refinancing with a cash-out refi has similar fees and closing costs to taking out any new mortgage. A home equity line of credit usually has lower fees and costs.
Is a Cash-Out Refi or a HELOC Right for You?
When choosing a cash-out refinance vs. home equity line of credit, here are some of the key factors to consider:
- How much money do you need? A cash-out refinance gives you a lump sum of money, and can be a good choice for large, one-time expenses. If you need a smaller amount, don’t know how much money you need, or simply want a line of credit to cover occasional emergencies, a home equity line of credit might be a better option.
- What will you use the money for? Most experts advise people to only borrow against their equity in order to make home improvements and increase the value of their property. However, if you have high credit card debt, a cash-out refinance can be a great way to lower your interest rates. On the other hand, a home equity line of credit can be a more convenient way to manage longer-term home improvement projects and pay for costs as they arise.
- Do you have income or debt challenges? In most cases, a cash-out refinance is easier to qualify for, since it simply replaces your current mortgage, and has less risk for lenders.
- How long will you be living in the home? If you plan on leaving your home within the next few years, you may not be living there long enough to compensate for the closing costs of a cash-out refinance. On the other hand, many home equity credit lines have prepayment penalties if you pay the debt off early.
Both a home equity line of credit and a cash-out refinance have certain advantages and drawbacks, and either one might be the right choice for homeowners with different needs.
How Can The Home Loan Expert Help?
The Home Loan Expert is more than a mortgage company. We’ve been helping homeowners manage their finances and get the best rates for over a decade, with legendary customer service and support. Contact us today for more information about cash-out refinancing, and learn why we’re one of the fastest-growing lending platforms in the nation.
