3 Types of Home Equity Loans: Pros and Cons
If you’re a homeowner, you have a lot of equity in your home. And if you need money, you might be wondering if you can tap into that equity. After all, your home equity can be a source of funding for major expenses like home improvements, education, or medical bills.
You have three main options when it comes to tapping into your home equity: cash-out refinance, second mortgage, or home equity line of credit (HELOC).
Let’s take a closer look at each option, so you can decide which one is right for you.
A cash-out refinance allows you to take out a new loan and use your home equity as collateral. You’ll get a lump sum of cash, and the new loan will replace your existing mortgage.
A second mortgage is a separate loan from your first mortgage. You’ll get a lump sum of cash to use as you see fit, and you’ll make monthly payments on the loan.
A HELOC is a line of credit that you can tap into as needed. You’ll only make payments on the amount of money you borrow, and you can borrow as little or as much as you need.
Now let’s compare the pros and cons of each option.
-You can get a lower interest rate: If interest rates have gone down since you got your first mortgage, you may be able to get a lower interest rate by doing a cash-out refinance.
-You can extend your loan term: If you have a higher interest rate on your current mortgage, doing a cash-out refinance and extending your loan term could lower your monthly payments.
-You can access your equity without selling your home: A second mortgage or HELOC lets you borrow against your home equity without selling your home.
-You could end up owing more than your home is worth: If housing prices go down and you do a cash-out refinance or take out a second mortgage, you could end up owing more than your home is worth. This is called being “underwater” on your mortgage.
-You could end up paying more in interest: If you extend your loan term when you do a cash-out refinance, you’ll end up paying more in interest over the life of the loan.
-You could end up paying more in fees: Cash-out refinances and second mortgages often come with higher closing costs than HELOCs.