5 Considerations When Deciding Between a Cash-Out Refinance, Home Equity Loan or 401k Loan
When it comes to taking out a loan against the equity in your home, there are a few options available. Two of the most popular are cash-out refinancing and home equity loans, but another option that you may not be as familiar with is a 401k loan.
Each option has its own set of pros and cons, so it's important to weigh all of the factors before making a decision. Here are 5 considerations to keep in mind when deciding between a cash-out refinance, home equity loan and 401k loan.
1. Your Reason for Borrowing
The first thing to consider is why you need to borrow the money in the first place. If you're looking for a large amount of money for a one-time expense, such as a home renovation, then a cash-out refinance or home equity loan may be the best option.
However, if you're looking for a smaller amount of money to consolidate debt or cover an ongoing expense, then a 401k loan may be a better choice.
2. How Much Money You Need to Borrow
The second consideration is how much money you need to borrow. With a cash-out refinance, you can typically borrow up to 80% of the value of your home. So if your home is worth $200,000, you could potentially borrow $160,000.
With a home equity loan, you can usually borrow up to 85% of the value of your home minus any outstanding mortgage debt. So using the same example, if you had a $100,000 mortgage balance, you could potentially borrow $70,000.
With a 401k loan, you can usually borrow up to 50% of your account balance, up to a maximum of $50,000. So if you have a $100,000 401k balance, you could borrow up to $50,000.
3. The Interest Rate
Another important consideration is the interest rate. With a cash-out refinance, you'll generally get a lower interest rate than you would with a home equity loan because you're using your home as collateral.
With a home equity loan, the interest rate will depend on your credit score and the equity in your home. If you have good credit and a lot of equity, you could potentially get a lower interest rate.
With a 401k loan, the interest rate is usually fixed at the prime rate plus 1%. So if the prime rate is 3%, your interest rate would be 4%.
4. The Loan Term
The loan term is also an important consideration. With a cash-out refinance, you can typically choose a loan term of 15 or 30 years. With a home equity loan, the loan term is usually shorter, around 5-15 years.
With a 401k loan, the loan term is usually 5 years, but some plans allow you to repay the loan over a longer period of time.
5. The Tax Implications
Another factor to consider are the tax implications. With a cash-out refinance, the interest you pay is tax-deductible. With a home equity loan, the interest is also tax-deductible.
However, with a 401k loan, the interest is not tax-deductible. So if you're trying to minimize your tax liability, a cash-out refinance or home equity loan may be a better choice than a 401k loan.
Making the decision between a cash-out refinance, home equity loan and 401k loan can be difficult. But if you weigh all of the factors, you should be able to choose the option that's best for you.