Learn how a Cash-Out Refinance, Home Equity Loan, and HELOC work to determine whether any of these options fit your needs.
If you find yourself strapped for cash, your home’s equity, or the difference between the home’s value and the outstanding mortgage, can be a great way to access large sums of money.
Common tools for tapping into those funds include Cash-Out Refinance Loans, Home Equity Loans, and Home Equity Lines of Credit (HELOCs). Though they have similarities, each option has unique characteristics and requirements.
Learn more about what each of these options has to offer.
Most lenders will allow you to borrow up to 80% of the home’s value less any liens. This is known as the Loan-to-Value Ratio (LTV). If your home is worth $300,000, for instance, the most you’d be able to borrow is $240,000. Let’s say you owe $150,000 on your mortgage, that leaves $90,000 available to borrow.
With a cash-out refinance, you receive a portion of your home’s equity in a lump sum and obtain a new loan with a larger principal balance than your current mortgage. The interest rate, term, payment, and conditions will likely change upon refinancing.
Benefits include being able to use funds for almost anything and not having to pay taxes on the proceeds. If you’re getting a better rate by refinancing, it can help offset costs of obtaining the loan.
On that note, closing costs run about 2-5% of the total mortgage amount though lenders can offer a special promotion. For that reason, this loan is generally more favorable for mortgages with lower balances, mortgages with reduced interest rates, and a purpose that justifies the costs.
Home Equity Loan
With a home equity loan, you’ll receive your total loan amount upfront. In contrast to the previous option, a home equity loan doesn’t directly impact your current mortgage. Most often, a second mortgage is taken against an already mortgaged property.
Homeowner’s can typically borrow up to 80% of the LTV less any liens. Additionally, home equity loans offer a low fixed rate and a fixed repayment period, typically ranging from 5-15 years. This is great if you’re looking for predictable payments.
Other loan specifications will vary by lender. For example, they may impose a minimum loan amount and may or may not charge closing costs, which can run 2-5% of the total loan amount. At A+FCU, the minimum loan amount is $25,000 and fees are reduced on certain loans with this special promotion.
Home Equity Line of Credit (HELOC)
A HELOC also typically adds a second mortgage to the home and functions similar to a credit card, allowing you to borrow funds as needed during an initial draw period, generally 5-10 years.
As is the case with a home equity loan, your lender may have specific requirements and may or may not charge closing costs, which also generally run 2-5% of the total loan amount. At A+FCU, for example, the max LTV is 80% less any liens and the minimum loan amount is $25,000 with a $4,000 minimum draw each time; fees are reduced under certain circumstances with this special promotion.
Like a credit card, you’ll only make payments if you draw funds and you don’t have to borrow the whole amount. During the draw period, you’ll typically make interest-only payments on the amount borrowed, but you can choose to pay more, repay the loan, or borrow more as you pay down the balance.
After the draw period ends, the loan will generally go into repayment for 15-20 years. Keep in mind, HELOCs traditionally offer a low variable rate, which means your payment can fluctuate over time.
Making a Decision
All of these loans can be used for virtually anything and each offers competitive rates that a personal loan or credit card can’t match. You may even qualify for a tax deduction, so it’s a good idea to consult with a tax professional as you prepare to make a decision.
The bottom line is which, if any of these loans, is best for your situation depends on several factors, including how much equity you have, the amount of cash needed, your ideal repayment term, the purpose of the loan, and your budget.
Finally, each of these options places a lien on the home. Should you have trouble making payments, this might put your home at risk. Carefully consider your options before finalizing a decision.
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