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Cash Out Refinance vs Home Equity Loans

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One of the best benefits of being a homeowner is getting the opportunity to get cash out.  Borrowers can choose from a home equity loan or a cash out refinance loan.  The home equity loan is a second mortgage lien and the cash out refinance is redoing your first mortgage.  If a homeowner already has a low fixed rate mortgage at 5% or lower than an equity loan can be appealing because it allows you to get a cash out second mortgage without touching the mortgage you already have.  If a borrower has an interest rate above 5% and/or it’s not a fixed rate mortgage, then cash out refinancing is an ideal opportunity for borrowers to reduce their interest rate while getting access to cash.

The fees and closing costs on refinance loans are typically higher than home equity loans, but in today’s competitive market you may be able to qualify for a low closing cost home loan, so discuss your options with your lender prior to jumping to conclusions. Another appealing option is the home equity line of credit.  Like the home equity loan, it is a second mortgage, but with an equity line you only pay interest on the portion you access.  So if you are doing a remodeling project that may take a year or two then, the home equity line might be the best solution.  If you are taking out cash to consolidate debt then, a fixed rate home equity loan would make sense over a credit line, because the interest rate is fixed and the terms are set.

When looking at cash out loan guidelines for home equity and refinance loans, the following applies:  FHA refinancing allows first mortgage refinancing with cash out options up to 85% loan to value.  Conventional refinance loans enable borrowers to finance up 80% loan to value and VA refinancing enable veterans to get cash out up to 90%.  Home equity lenders offer cash out loans and lines from 75 – 90% loan to value, but the credit scores must be excellent to qualify.  The other factor to remember is that since equity loans are second mortgages, you have to calculate your present loan plus the second loan amount, divided by the appraised value to calculate your combine loan to value.

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2 Comments

1

We are having a difficult time refinancing our home equity line. Our home value dropped and our first and second mortgage balances are now more than our home is worth. Do you have any suggestions?
Thanks -Tim

2

This is one of the biggest obstacles in mortgage lending today. Thousands of homeowners are underwater and unable to refinance their first or second mortgages. The Home Affordable Refinance Program allows borrowers to refinance their first mortgage up to 125% if the note is held by Fannie Mae or Freddie Mac. However, they do not allow borrowers to refinance any type of second mortgage into their first mortgage.

At this point you have two options.
1. Wait for your home equity to rebound and then refinance the HELOC into your first mortgage. The problem is that is could be several years until your home equity comes back and the interest rates could be significantly higher at that point.

2. Consider contacting your second mortgage company that services the home equity line and request a second mortgage modification. You never know, they may offer a fixed rate conversion and they may renegotiate the balance if you have the ability to pay it off.

We wish the best of luck Tim.

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