Differences Between HELOCs vs. Cash-Out Refinance
5 considerations when deciding between a home equity line of credit and cash-out refinance
1. How much equity do you have in your home?
2. What are your financial goals?
3. What is the interest rate on your current mortgage?
4. What are the terms of the HELOC or cash-out refinance?
5. What are the tax implications?
Introduction
When you own a home, there are two ways you can leverage your equity to access cash. You can either take out a home equity line of credit (HELOC) or do a cash-out refinance. Both options have their pros and cons, so it’s important to understand the key differences before making a decision.
HELOCs vs. Cash-Out Refinances
A home equity line of credit is a revolving line of credit that uses your home as collateral. You can withdraw money as you need it up to your credit limit and make payments as you go. A cash-out refinance is a new mortgage that pays off your old one and gives you cash at closing. With a cash-out refinance, you get a lump sum of cash to use as you please.
Here are five key considerations to keep in mind when deciding between a HELOC and cash-out refinance:
1. How much equity do you have in your home?
2. What are your financial goals?
3. What is the interest rate on your current mortgage?
4. What are the terms of the HELOC or cash-out refinance?
5. What are the tax implications?
Let’s take a more detailed look at each of these factors.
1. How much equity do you have in your home?
Equity is the portion of your home’s value that you own outright. To qualify for a HELOC or cash-out refinance, you’ll need to have at least 20% equity in your home. If you have less than 20% equity, you’ll likely need to pay for private mortgage insurance, which would increase your monthly payments.
2. What are your financial goals?
HELOCs and cash-out refinances can both be used for a variety of purposes, including home improvement projects, debt consolidation, or investment. But it’s important to think about your specific financial goals before deciding which option is right for you.
If you need money for a one-time expense, such as a home renovation, then a cash-out refinance may be the better option since you’ll receive a lump sum of money at closing. On the other hand, if you need on-going access to cash, such as for debt consolidation or investments, then a HELOC may be the better choice since you can withdraw money as you need it up to your credit limit.
3. What is the interest rate on your current mortgage?
If you have a low interest rate on your current mortgage, you may want to think twice about taking out a HELOC or cash-out refinance since you’ll be resetting the clock on your mortgage and starting over with a higher interest rate.
4. What are the terms of the HELOC or cash-out refinance?
HELOCs and cash-out refinances both have different terms to be aware of. With a HELOC, you’ll typically have a 10-year draw period followed by a 10-year repayment period. This means you can withdraw money as you need it for 10 years, and then you’ll have 10 years to repay the outstanding balance.
Cash-out refinances usually have a 15- or 30-year term. This means you’ll have a fixed monthly payment for the life of the loan.
5. What are the tax implications?
The interest on a HELOC or cash-out refinance is tax deductible if the funds are used for home improvements. But if you use the funds for other purposes, such as debt consolidation or investments, the interest is not tax deductible.
Final thoughts
Taking out a HELOC or cash-out refinance can be a great way to access the equity in your home. But there are some key considerations to keep in mind before making a decision. Be sure to consider your equity, financial goals, current interest rate, and terms before deciding which option is right for you.
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