Are you a homeowner in need of cash to pay for a big expense or consolidate debt? Two popular options are home equity loans and refinancing. While both can help you tap into your home’s value, each option has its own set of pros and cons. In this article, we’ll explore the differences between home equity loans and refinancing, so you can make an informed decision about which option is right for you.
What is a Home Equity Loan?
A home equity loan is a type of loan that allows you to borrow against the equity you’ve built up in your home. Equity is the difference between what your home is worth and what you owe on your mortgage. For example, if your home is worth $300,000 and you owe $200,000 on your mortgage, you have $100,000 in equity.
With a home equity loan, you can typically borrow up to 85% of your home’s equity. The loan is secured by your home, which means that if you fail to make payments, the lender can foreclose on your home.
Pros of a Home Equity Loan
👍 Lower interest rates than personal loans or credit cards
👍 Fixed interest rates and monthly payments
👍 Interest may be tax-deductible*
Cons of a Home Equity Loan
👎 Requires equity in your home
👎 Fees and closing costs
👎 Borrowing against your home puts it at risk of foreclosure if you can’t make payments
What is Refinancing?
Refinancing is the process of replacing your current mortgage with a new one. You may choose to refinance to take advantage of lower interest rates or to change the terms of your loan. For example, you may want to switch from an adjustable-rate mortgage (ARM) to a fixed-rate mortgage to lock in a low rate.
When you refinance, you can also cash out some of your home’s equity. This is called a cash-out refinance. For example, if your home is worth $300,000 and you owe $200,000 on your mortgage, you can refinance for $250,000 and receive $50,000 in cash.
Pros of Refinancing
👍 Lower interest rates than your current mortgage
👍 The ability to change the terms of your loan
👍 Cash-out refinancing allows you to access your home’s equity
Cons of Refinancing
👎 Requires you to qualify for a new loan
👎 Fees and closing costs
👎 Borrowing against your home puts it at risk of foreclosure if you can’t make payments
Home Equity Loan vs Refinancing: Which is Right for You?
The decision to get a home equity loan or refinance your mortgage depends on your financial situation and goals. Here are some factors to consider:
Factor |
Home Equity Loan |
Refinancing |
|---|---|---|
Interest Rates |
Fixed interest rates, often lower than personal loans or credit cards |
Lower interest rates than your current mortgage |
Monthly Payments |
Fixed monthly payments |
May change depending on your new loan’s terms |
Access to Equity |
Allows you to borrow against your home’s equity |
Allows you to cash out some of your home’s equity |
Qualification |
Requires equity in your home; may be easier to qualify for than a new mortgage |
Requires you to qualify for a new mortgage |
Fees and Closing Costs |
May have fees and closing costs |
Usually has fees and closing costs |
Risk of Foreclosure |
Borrowing against your home puts it at risk of foreclosure if you can’t make payments |
Borrowing against your home puts it at risk of foreclosure if you can’t make payments |
FAQs
1. Can you use a home equity loan to pay off credit card debt?
Yes, a home equity loan can be used to consolidate high-interest debt, such as credit card debt. This can be a good option if you have a lot of debt and want to lower your interest rates and monthly payments.
2. Can you refinance a home equity loan?
Yes, you can refinance a home equity loan. This can be a good option if interest rates have dropped since you took out the loan.
3. How much equity do you need for a home equity loan?
You usually need at least 20% equity in your home to be eligible for a home equity loan. However, some lenders may offer loans to homeowners with less equity.
4. What are the fees associated with a home equity loan?
Home equity loans may have fees, such as origination fees and appraisal fees. These fees can vary depending on the lender and the loan.
5. Can you deduct the interest on a home equity loan?
Interest on a home equity loan may be tax-deductible if you use the loan to make home improvements or other qualified expenses. However, if you use the loan to pay off credit card debt or other non-home related expenses, the interest is not tax-deductible.
6. What is the difference between a home equity loan and a home equity line of credit?
A home equity loan is a one-time loan that allows you to borrow against your home’s equity. A home equity line of credit (HELOC) is a revolving line of credit that allows you to borrow against your home’s equity as needed.
7. Can you refinance to get a lower interest rate on a home equity loan?
Yes, you can refinance a home equity loan to get a lower interest rate. This can be a good option if interest rates have dropped since you took out the loan.
8. How does a cash-out refinance work?
A cash-out refinance allows you to refinance your mortgage for more than you owe and receive the difference in cash. For example, if your home is worth $300,000 and you owe $200,000 on your mortgage, you can refinance for $250,000 and receive $50,000 in cash.
9. How do you qualify for a home equity loan?
To qualify for a home equity loan, you usually need to have at least 20% equity in your home, a good credit score, and a stable income. Lenders may also consider your debt-to-income ratio and other factors when deciding whether to approve your loan.
10. How long does it take to get a home equity loan?
The time it takes to get a home equity loan can vary depending on the lender and your application. Some lenders offer same-day approvals, while others may take a few weeks to process your application.
11. Can you use a home equity loan for anything?
You can use a home equity loan for many purposes, such as home improvements, debt consolidation, or paying for a large expense like a wedding or college tuition.
12. What happens if you can’t make payments on a home equity loan?
If you can’t make payments on a home equity loan, the lender can foreclose on your home. This means that you could lose your home if you can’t pay back the loan.
13. How do you compare home equity loan rates?
You can compare home equity loan rates by contacting lenders and asking for quotes. Be sure to compare the interest rates, fees, and other terms of each loan to find the best option for you.
Conclusion
Deciding between a home equity loan and refinancing can be a tough choice. It’s important to weigh the pros and cons of each option and consider your financial goals. If you want to access your home’s equity and have a fixed monthly payment, a home equity loan may be the right choice. If you want to lower your interest rate or change the terms of your loan, refinancing may be a better option. Whatever you choose, make sure you understand the terms and fees of the loan before signing on the dotted line.
Ready to take the next step? Contact a lender today to learn more about your options for home equity loans and refinancing.
Closing Disclaimer
This article is for informational purposes only and does not constitute financial advice. Please consult a financial advisor before making any financial decisions.