HELOC vs. refinance: Which is better for a cash-out loan? Is a home equity line of credit (HELOC) or a refinance of your principal mortgage the better option for you?
Market Rate Can Help You Choose
A recession in 2020 could see rates fall even further than they have in the last two months. Some industry pundits are suggesting we could get back to the lowest levels last seen during 2016, after the Brexit announcement.
Be Ready With a Loan Application
In this most recent run on rates, the market has hit bottom a handful of times. And each time it seems to stay there for just a day or even a few hours before rates start increasing again.
To capture the market once rates touch a low level, it’s important to have a loan application already in process. This allows the market to be locked for the lender before it runs higher again.
This is the normal process during every refinance heavy period. We identify at what rate it would make sense to refinance. Then we get those loans set up so we can capture the rate drops when they happen.
No Application Fee, No Commitment
There is no application fee with me nor any monetary commitment. So it’s a no-cost opportunity to be in line to capture the best rate when you’re timing your loan with rate fluctuations. The majority of mortgage refinances I am closing now and during any refinance run are where the rate drops .5% or more compared to the current rate, with the lender paying all of the closing costs.
With the recent property appreciation of the past few years, many of the refinance loans I am closing also don’t require an appraisal. The investor/lender underwriting system can agree with the valuation I input into the system through various automated valuation applications that then allow for no appraisal.
Rate and Term Refinance
We can also do a “rate and term” refinance. This means we are simply reducing the interest rate and not taking any cash out of the property’s equity. In that case, we have a very high probability of avoiding an appraisal.
In addition to reducing the rate, many borrowers are taking advantage of the low rate environment to take cash out of their equity. It can be used to fund home improvement projects, pay off debts, and fund their portfolio including their retirement. Paying for kids’ college tuition is an event that can be financed from a cash-out refinance.
HELOC with Credit Line
If you simply want to access your equity when you need it, without an immediate need for cash, a HELOC with a credit limit you can borrow against can be a good solution.
Before the recent rate drop, many borrowers who wanted to access the equity in their homes were more inclined to take out a Home Equity Line of Credit (HELOC) in the second position behind their existing first mortgage.
HELOC vs. Refi
There are a few major differences with using a HELOC to access equity versus doing the first mortgage, cash-out refinance.
The interest rate on a HELOC is adjustable and can go up and down with the Prime Rate.
Also, the monthly interest paid on a HELOC in the second position is no longer tax-deductible. In contrast, the interest paid on mortgages in the first position may be tax-deductible.
The monthly interest owed on a HELOC is paid on any HELOC balance each month, like a credit card. As the balance goes up and down, the amount of interest owed also fluctuates. A HELOC with a $0 balance would not have any payment.
Another difference is that it’s harder to qualify for a HELOC in the second position to an existing first mortgage than a cash-out refinance in the first position. Investors and lenders perceive the HELOC in the second position to be of higher risk. In a foreclosure situation, the lender in the first position is safer, because they get paid first when the property is sold.
From a rate perspective, there are major differences between a fixed rate, first mortgage, and a HELOC. The Prime Rate is directly affected by the rate decisions made by the Federal Reserve. While first mortgage and fixed-rate mortgages tend to follow the Fed eventually, the Prime Rate is affected immediately by the Fed’s rate decision for their target rate, The Fed Funds.
Prime was at 5.5% before the Fed’s rate decision on July 31, 2019. And is always 3% higher than the Fed Funds. At the time I am writing this update, the Fed’s rate decision hasn’t yet been made. But the market is anticipating a .25% rate cut, which is part of what is fueling the drop in mortgage rates.
In conclusion, 30-year fixed rates are falling to below 3.875% APR. In many cases now, taking cash out in a first mortgage refinance is more attractive compared to doing it via HELOC.
I’m happy to sort through the variables to help you decide which route is best when you’re choosing a HELOC or refinance of your principal mortgage. I have the pulse on changing rates and conditions, and I love helping my clients make the best choices in this market.