Do you want to borrow against the equity in your home? You can get a cash-out refinance loan to get the funds you need. Or you can take out a home equity loan in addition to your mortgage.
Both are viable options worth considering, but they have a few key differences to keep in mind.
What Is Cash-Out Refinancing?
Cash-out refinancing is a mortgage product that lets you convert your home’s equity into cash.
How Does Cash-Out Refinancing Work?
Most lenders allow you to borrow between 80 percent and 85 percent of your home’s value, minus the amount you currently owe. So, if your home is worth $375,000 and you owe $275,000, you have equity of $100,000. With a cash-out refinance, you potentially qualify for between $80,000 and $85,000.
Based on these figures, if the lender approves you for a cash-out refi for 80 percent, your new loan amount is $355,000. You’ll receive $80,000 in cash when you close the loan and commence monthly mortgage payments on the new loan for 15 or 30 years, depending on the repayment term.
Depending on what you want to use the cash for, you may want to consider other options to make the most out of your home equity.
As an example, if you want to use the money to renovate your home, a RenoFi ReFi may be a better option to increase your borrowing power.
A RenoFi ReFi is a refinance of your mortgage that allows you to borrow up to 90% of your projected home’s value after the renovation project.
Meanwhile, a traditional cash-out refinance will consider your current home’s value, with most lenders allowing you to borrow up only to 80-85%. On average, a RenoFi ReFi will allow you to take out 11x more cash than a traditional refi would.
Home Renovation Loans
The Pros of a Cash-Out Refinancing
- You won’t have two mortgages. A cash-out refi replaces your first mortgage, so you won’t have two loan products to worry about/manage.
- Both fixed and variable interest rates are available. If you get a fixed interest rate, your payment is predictable every month. However, a variable rate could mean a far lower payment at the beginning of the loan term, followed by fluctuating rates as market conditions change.
The Cons of Cash-Out Refinancing
- Your mortgage payment will be higher. The payments on the new loan amount could be far more than you can comfortably afford to pay, particularly if the lender shortens the repayment period.
- Steep closing costs. Closing costs are generally between 2 to 6 percent of the new loan amount, which could amount to several thousand dollars.
What Is a Home Equity Loan?
A home equity loan also allows you to tap into your home’s equity, but it acts as a second mortgage.
How Does a Home Equity Loan Work?
You can potentially borrow between 75 and 80 percent of your home’s value, minus what you still owe on your mortgage. For example, if your home is worth $275,000, but you owe $245,000 on your mortgage, you have $30,000 in equity. So, your loan is limited to $22,500 or $24,000, depending on the cap the lender sets.
Home equity loans fund at closing and all the proceeds are disbursed to you in a lump sum. You will make fixed monthly payments for a term of five to 30 years, and most of these products also come with a fixed interest rate.
The Pros of Home Equity Loans
- You get a fixed interest rate. A fixed interest rate helps prevent fluctuations in monthly payments over the life of the loan.
- You get an extended repayment period. You won’t be on the hook for repaying everything you borrow in a short window.
- You can possibly deduct the interest paid on your tax return. If the loan proceeds are used for home improvements, any interest paid could be tax-deductible.
The Cons of Home Equity Loans
- Your home is at risk for foreclosure. If you stop paying your home equity loan you could lose your house as it is used as collateral.
- You could potentially owe more than your home is worth. If market conditions decline, you could find yourself outside down in your home loan.
- Your monthly payments could be unaffordable. Since you’ll be taking out a second loan, covering your monthly and original mortgage payments could stretch your budget too thin.
Home Renovation Loans
Cash-Out Refinance vs. Home Equity Loan: Key Differences
A cash-out refinance replaces your current mortgage, while a home equity loan acts as a second mortgage. Furthermore, interest rates can be fixed, or variable on cash-out refinances – the interest rates for home equity loans are generally fixed.
Should You Use a Cash-Out Refinance or Home Equity Loan?
It depends on your desired loan amount, current equity, and credit rating. A cash-out refinance means you’ll only have one loan to manage, but you may need private mortgage insurance. However, it could be the better option if you get a lower interest rate.
However, a home equity loan could be the better fit if you can’t get a lower rate with cash-out refinance. Your monthly payments could be steep, but if your repayment period is shorter, you could save a bundle in interest.
Getting a Cash-Out Refinance vs. Home Equity Loan
Below are some important considerations when shopping for a cash-out refinance or home equity loan.
How to Get a Cash-Out Refinance
Cash-out refinance loans are offered by brick-and-mortar banks, credit unions, online banks, and direct lenders. With so many options available, it’s easy to get overwhelmed when exploring what each has to offer. So, it’s best to speak with loan offers who work for the lenders you’re considering to learn more about the terms and conditions of their cash-out refinance products. Also, go through the preapproval process with the lenders to gather loan estimates and compare your offers to make an informed decision.
How to Get a Home Equity Loan
If you’re searching for a home equity loan to fund your renovations, look no further than RenoFi. They partner with credit unions throughout the U.S. to offer innovative financing solutions to homeowners who prefer a loan product with an extended term, competitive interest rate, and low closing costs. Not only can you borrow up to 90 percent of your home’s after-renovation value, but the application process is seamless.
Inquire about RenoFi’s loan products by using the calculator to view your potential borrowing power, rates, and payments. The next step is to input your information into a self-prequalify tool to be matched with a dedicated RenoFi Advisor who can discuss your options and help you prepare to apply directly with the best lender.
FAQs About Comparing Cash-Out Refinances vs. Home Equity Loans
Here are some frequently asked questions about cash-out refinances and home equity homes:
Qualification criteria vary by lender as each has its own debt-to-income (DTI) and credit score requirements. Contact the lenders you’re considering to learn more about their qualification criteria before you apply.
It depends on your financial situation and needs. Cash-out refinancing could get you access to more funds than a second mortgage, and a home equity loan from RenoFi could substantially increase your borrowing power since it’s based on your home’s projected worth after renovations are complete.
You can borrow 80 to 85 percent of your home’s value (minus your mortgage balance) with a cash-out refinance. However, home equity loans are generally limited to 75 to 80 percent of your home’s value (minus your mortgage balance).