HELOC vs. Cash-out Refi: How to Choose

Written by Banks Editorial Team
4 min. read
Written by Banks Editorial Team
4 min. read

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Do you happen to have a sizable amount of equity in your home? Whether you’ve lived in the house for some time and built it up or benefited from the rapid growth of the housing market, you may be looking to convert your equity into cash. Many consumers use HELOCs, and cash-out refinances to pull equity out of their homes. While the two are very similar, there are some key differences to consider before deciding which is best. 

Home Loans and Mortgage Refinancing

HELOC vs. Cash-out Refi: Overview

Before comparing the two, run the numbers to determine how much equity you have in your home. You’ll need to get an estimate of how much your home is worth and subtract the outstanding balance of your mortgage and any other loans against the property to come up with this figure. 

To illustrate, assume your home is worth $425,000, but you still owe $275,000 on the mortgage. In this case, you’d have $150,000 in equity. Once you’ve come up with an estimate, the next step is to learn more about how each loan works and if your equity is enough to potentially qualify for funding. 

What is a HELOC and How Does it Work?

A home equity line of credit (HELOC) basically acts as a second mortgage that lets you borrow against your home equity. Most lenders offering a HELOC will let you borrow up to 85% of what your home is worth, minus the mortgage balance. However, instead of a lump sum of cash, you will have access to a pool of funds that you can tap into during what’s known as the draw period, which typically spans 10 years. 

For example, if your home is valued at $395,000 and you owe $250,000 on the mortgage, you could be eligible for a HELOC of up to $85,700 ($395,000 * .85 – $250,000).

Although you’re only required to make interest-only payments during the draw period, you’re free to pay a portion or all of what you borrow and use the funds again. But when the draw period ends, you’ll be on the hook for principal and interest payments for a set period. The monthly payment will likely fluctuate since HELOCs have a variable interest rate. 

HELOC: Pros and Cons

Pros: 

  • You’ll only pay interest on the amount you borrow. 
  • Closing costs are relatively low. 
  • You have the option to make interest-only payments during the draw period.

Cons: 

  • It comes with a variable interest rate. 
  • It may be harder to qualify for than a cash-out refinance.

What is a Cash-out Refi and How Does it Work?

A cash-out refinance swaps out your current mortgage with a new one that also includes the amount of equity you pull out in cash. Once you close on the new loan, the lender will pay your current mortgage off, disburse the equity you pull out, and you’ll commence repayment on the new loan. 

To illustrate, assume your home is valued at $535,000, but you still owe $210,000 on the mortgage. If the lender lets you borrow 85% of your home’s value through a cash out-refinance, here’s how it would all work out: 

  • You’ll get $244,750 ($535,000 * .85 – $210,000) in cash following closing. 
  • You’ll get a new mortgage for $454,750 ($210,000 + $244,750) or the amount of your outstanding mortgage balance plus the cash you pull out).

Cash-out Refi: Pros and Cons

Pros: 

  • You’ll get a fixed interest rate and predictable monthly payment. 
  • You can get a lower interest rate or modify your loan term. 
  • You’ll only make one monthly payment.

Cons:

  • The amount of interest you pay could be more costly if the rates have increased since you took out your current mortgage. 
  • Your mortgage payment could be much higher. 
  • Closing costs are steep.

Home Loans and Mortgage Refinancing

HELOC vs. Cash-out Refi: Similarities

Here’s how the two loan products are similar: 

  • You’ll need a substantial amount of equity to qualify. 
  • You could lose your home if you fall behind on the monthly payments. 
  • You’re free to use the proceeds in any way you want. 
  • Many consumers use both loan products to make costly home improvements or meet financial goals, like paying off high-interest credit cards or loan products.

HELOC vs. Cash-out Refi: Differences

There are also some differences to consider: 

  • HELOCs act as a second mortgage, and cash-out refinances replace your current mortgage with a new one. 
  • Cash-out refinances are often easier to qualify for because they’re less risky for the lender. 
  • You’ll generally pay a higher interest rate (variable) for a HELOC than a cash-out refinance (with a fixed interest rate).

HELOC vs. Cash-out Refi: Things to Consider

When evaluating HELOCs and cash-out refinances, keep these factors in mind to determine which makes the most financial sense. 

Length of the Loan Term

  • HELOC: Does the loan term, typically up to 20 years, work for you? 
  • Cash-out refinance: Would you prefer a 15 or 30-year loan term, and are both options available with the new lender?

Interest Rate

  • HELOC: Are you comfortable with a variable interest rate that fluctuates with market conditions? 
  • Cash-out refinance: Can you get a lower interest rate than you currently have by refinancing your home?

Monthly Payments

  • HELOC: Do you have room in your budget to afford a monthly payment that will likely change over time? 
  • Cash-out refinance: Are you prepared for a higher mortgage payment? 

Payment Options

Do you prefer to draw from a pool of cash as needed, or do you want all the money upfront? 

Closing Costs

Are you okay with paying closing costs on your outstanding mortgage balance and the amount of equity you pull out in cash for a second time? If not, a HELOC may be the best option. 

Where Can You Easily Refinance Your Mortgage?

There’s no shortage of mortgage lenders you can use to refinance. When conducting your search, check out what loanDepot has to offer. 

With over 12 years of industry experience, loanDepot has helped customers refinance over $179 billion in mortgages. It’s also the fifth-largest retail mortgage lender and boasts a nationwide team of more than 10,000 committed professionals who provide world-class service to over 27,000 customers monthly. 

To learn more about loanDepot and their home refinance options, submit a simple inquiry on their website. A Licensed Loan officer will reach out to discuss your needs. There are also 200 locations to choose from if you want to sit down and chat with a Licensed Loan officer in your area. 

loanDepot

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