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HELOC or home equity loan vs. cash-out refinance

Three different ways to tap into your home’s equity, but which one is best for your needs?

Home equity is the difference between what you owe on your mortgage and the market value of your home. Home equity lines of credit (HELOCs), home equity loans (HELOANs) and cash-out refinancing are three ways to access your home’s equity. While similar, they all have different requirements and terms which can impact your budget.

Here’s how to pick the right one for your needs.

How to calculate your home’s equity

Subtract your mortgage from your home’s fair market value. For example, if your home is worth $250,000 and you owe $150,000 on your current mortgage, you have $100,000 in equity before taking on any new debt against your home.

The difference home equity lines of credit (HELOCS), home equity loans (HELOANs) and cash-out refinances

The difference between a HELOC, HELOAN or cash-out refinance is in the terms of the loan. Here’s a breakdown of the main differences.

Home equity line of credit (HELOCHome equity loan (HELOAN)Cash-out refinance
Disbursement methodRevolving line of credit for 10 yearsOne-time lump sum paymentOne-time lump sum payment
Interest rate typeVariable, with a fixed option in some casesFixedFixed or variable
Closing costsUsually $0Usually $02% to 5% of the loan’s value
Repayment termsUp to 20 years (sometimes 30)Typically 5 to 30 yearsUp to 30 years
Repayment typeInterest-only and/or principal and interest (P&I) during the draw period

P&I during the repayment period

Principal and interestPrincipal and interest
Maximum loan amountBorrow up to 80% to 90% of your home’s value across your first and second loansBorrow up to 80% to 90% of your home’s value across your first and second loansBorrow up to 80% of your home’s value
How many loans do you have to repay?221
Rate discounts availableTypically yes, as many lenders offer “relationship discounts”Typically yes, as many lenders offer “relationship discounts”Depends on the lender

How HELOCs work

A HELOC is a revolving line of credit that works a lot like a credit card, but you’re using your home as collateral. Unlike home equity loans, HELOCs have two parts: a draw period and a repayment period.

  • Draw period. During the draw period — usually 10 years — you can withdraw money from your HELOC and make monthly interest-only or principal and interest payments. Most lenders require you to make a minimum draw when you open the line, typically between $1,000 and $25,000.
  • Repayment period. After the 10-year draw period ends, the HELOC converts to a term loan which you must pay back over the next 20 years. Some lenders offer a 30-year repayment period, but this is less common. You can also pay the line off completely, usually without a prepayment penalty.

For more information on HELOC interest rate calculations and how repayments work, see our guide to HELOCs.

How to reduce the risk of rising HELOC interest rates

HELOCs often offer competitive introductory variable rates, but the downside is that your monthly payment can jump up after the intro period ends. To offset the risk of rising rates, some lenders will let you “fix” — lock in — all or part of your line to a fixed rate during the draw period. Contact the lender to find out if they offer this feature.

How HELOANs work

A home equity loan works the same way as other secured loans, but you’re using your home as collateral. When you get a home equity loan, you receive a lump sum payment which you pay back over a set period — usually five to 30 years — with even monthly fixed-interest repayments. In general, the shorter the term, the lower the rate you can get.

Like HELOCs, home equity loans may not have prepayment penalties — but clarify with your lender beforehand. The downside is that the fixed rates on home equity loans may be be higher than HELOCs when the prime rate is low, but the fixed rate gives you more payment predictability. There’s typically no closing costs to pay either.

For more details on home equity interest rates and how repayments work, see our guide to home equity loans.

How a cash-out refinance works

A cash-out refinance is like getting a regular mortgage, except that you’re replacing your current mortgage for a new one with a higher loan amount. This difference between new and old loan amounts is the “cash-out” portion which you can put in your pocket and use for any purpose.

The main benefit of doing a cash-out refinance over getting a home equity loan or HELOC is that in addition to “cashing out” the difference between your old and new mortgage, you can potentially secure a lower interest rate at the same time — that is, if rates are favorable and if you have good credit.

Another plus is that you make one monthly payment instead of two, unlike with a HELOC or HELOAN. The downside is that you must typically pay closing costs with a cash-out refi, unless your lender is willing to waive them. So, it only makes sense to get a refi if you plan on staying in the house long enough to recoup your closing costs in the form of reduced interest.

For more details on cash-out refi interest rates, costs, fees and repayments, see our guide to cash-out refinancing.

Pros and cons of home equity loans and lines of credit

Both options have benefits, but keep in mind the risks.

Pros

  • Use the money for any purpose.
  • Lower upfront borrowing costs than with a cash-out refinance.
  • May be able to borrow up to 90% or even 97% LTV.
  • Interest may be tax-deductible if used for home improvements.

Cons

  • If you have a mortgage, you’re making two payments every month.
  • Rates on HELOCs can fluctuate, which may cause your payment to rise.
  • More debt puts your home at greater risk of foreclosure.
  • You must have significant equity in your home.

Pros and cons of cash-out refinances

Cash-out refinances have benefits, but they’re not for everyone.

Pros

  • May be able to secure a lower interest rate by refinancing.
  • Can change the terms of your loan when you refinance.
  • May be easier to qualify for a cash-out refi than a HELOC or HELOAN.
  • Make only one even monthly payment.

Cons

  • Closing costs can run high.
  • Not a good option if you don’t plan on staying in the home.
  • Most lenders will only let you borrow up to 80% LTV.
  • You need to have significant equity in your home.

How to choose the right option

Here are some questions to consider to make sure you’re choosing the right option for your needs.

  • What are the rates and fees? Because they typically don’t charge closing costs, HELOCs and HELOANs tend to have lower costs up front, but the interest rates are usually higher than with a cash-out refinance loan.
  • How much money do you need? A cash-out refinance may be better for large projects while HELOCs and HELOANs may be better for smaller expenses. How much you can borrow depends on your equity among other things. See our HELOC amount calculator.
  • How do you plan to spend the funds? HELOCs are a revolving line of credit, which means it offers more borrowing and repayment flexibility than with a cash-out refinance or home equity loan.
  • Do you plan on staying in the home? If you plan on moving out of the home before you can recoup the costs of doing a cash-out refinance, you’re better off getting a HELOC or HELOAN which typically don’t charge closing costs or origination fees.
  • Which is easier to qualify for? Cash-out refinances can be easier to qualify for than HELOCs or HELOANs since the lender is “first in line” as a creditor should the house go into foreclosure.
  • What terms do I want? Because you can make interest-only payments and borrow only what you need, monthly payments on a HELOC can be potentially lower than with a HELOAN or cash-out refinance.

Which offers higher tax deductions?

The IRS treats tax deductions differently for HELOCs and HELOANs than for traditional mortgages. With a mortgage, you can deduct home loan interest on up to $750,000 of your current mortgage debt as a single tax filer, and up to $375,000 of indebtedness if you’re married and filing separately.

Unlike mortgages, you can only deduct interest on a HELOC or HELOAN if the funds are used to make home improvements – for example, if you’re adding another bedroom or otherwise “substantially improving” the property as defined by the IRS. In the past, you were able to deduct interest on a HELOC and HELOAN, but that changed in 2017 with the “2017 Tax Cuts and Jobs Act.”

So, when determining which offers higher tax deductions, you need to consider if you’re going to use your HELOC or HELOAN for home improvements. If not, you won’t get a tax break. And if you’re unsure whether interest is deductible, consult with a qualified tax professional.

Compare interest rates for home equity loans, HELOCs and cash-out refinancing

Use our tool to get personalized estimated rates from top lenders based on your location and financial details. Select whether you’re looking for a Home Equity Loan, HELOC or Cash-Out Refinance.

If you selected a home equity loan or HELOC, enter your ZIP code, credit score and information about your current home to see your personalized rates.

In the Cash-Out Refinance tab, select Refinance and enter your ZIP code, credit score and other property details to see what you might qualify for.

6 more financing options

Home equity loans, HELOCs and cash-out refinance aren’t the only way to access cash. If you don’t have enough equity or don’t want to use your home as collateral, consider these other financing options.

  1. Home equity sharing. In this arrangement, you get a specific percentage of your home’s value in cash without any payments for up to 10 years. At the end of the 10 years, you must pay back the loan — with appreciation, if any — with your savings or with proceeds from the sale of the home. Hometap is one lender that offers home equity sharing, but it comes with risks.
  2. Personal loans. This is an unsecured loan from as low as $500 up to $100,000 that can be used for any purpose, but interest rates will likely be higher than for a home equity loan or mortgage. You’ll also need to qualify with your credit score and a source of income. Compare the best personal loans for your needs.
  3. Crypto-backed loans. If you own enough cryptocurrency, you can borrow against these assets without having to sell them and pay capital gains tax. Lenders like Unchained Capital, SALT Lending and BlockFi offer crypto- and bitcoin-backed loans. Learn about crypto-backed loan pros and cons.
  4. Credit card advances. These have much higher APRs than either home equity loans or refis, but the convenience can help you cover small to medium expenses faster than almost any other type of loan. And if you can get a 0% introductory rate for 12 months, it can actually save you money. Compare the best introductory 0% APR credit cards.
  5. Peer-to-peer (P2P) loans. A P2P is like a personal loan, except your loan is funded by another individual, instead of a bank or financial institution. Requirements for these loans may be more lenient than with a bank, but there’s no guarantee your loan will be funded. Compare the most popular P2P lending providers.
  6. 401(K) loan. Unlike other types of loans, borrowing against your own 401(k) savings doesn’t require a credit check or income verification. This should be an option of last resort, as you’re subtracting money from your retirement and losing out on compound interest if you can’t repay the loan.

Bottom line

HELOCs, HELOANs and cash-out refis can help you take advantage of your home’s equity, but there are pros and cons to consider. By carefully considering what you need the money for and the impact to your monthly cash flow, you’re better positioned to find the best way to access your home’s equity.

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