Cash out refi or HELOC

[Daquille Ferguson]

I have about 300k in equity in my single family home that I have never tapped into. I want to access this equity to invest into getting a second property. With interest rates on the rise I’m trying to decide if a Heloc or cash out refi would be better. My current interest rate is 3.875%. What is the best course of action? Thank you in advance.

[Alex Russell]

Hey there @Daquille Ferguson,

Here are a few tips:

Think About Loan Terms

Cash-out refinances extend the length of your existing mortgage loans, while HELOCs add a second loan to your current time frame and therefore an additional monthly payment. So, if you can’t reasonably commit to the additional monthly expense, the cash-out refinance is probably a safer option.

Consider Payment Options

You should also consider how you'll receive your funds. If you're in need of a one-time, lump sum of money to be used for a renovation or personal expense, a cash-out refinance will be simpler. But if you prefer to have access to your funds over a span of time, you'll be better off with a HELOC, as the draw period typically lasts around 10 years and you can use your money as needed during that time.

Compare Rates

Rates are always a key factor when comparing loan options. For homeowners who prefer fixed rates, a cash-out refinance will be more comfortable, as their payments won’t change over time. But if you’re comfortable with an adjustable rate, HELOCs may offer you access to more equity overall.

Estimate Closing Costs

If you want to pay less upfront, HELOCs may be a better option. This is because refinancing incurs closing costs, while HELOCs typically do not.

When calculating closing costs, you should also consider private mortgage insurance, or PMI, as it applies to refinancing. PMI protects your lender if you stop making payments on your loan, so if you make a down payment of less than 20% on your home, your lender will likely require you to pay PMI. In some cases, taking on a HELOC can help you avoid paying for PMI altogether.

Don’t Forget Taxes

There are also tax implications of refinancing versus taking out a line of credit. The IRS views refinances as a type of debt restructuring, which means the deductions and credits you can claim are significantly less plentiful than when you got your first mortgage. Because refinances are considered loans, you would not need to include the cash from your cash-out refinance as income when filing your taxes.

Depending on what your cash is used for, it may or may not be tax deductible. With both cash-out refinances and HELOCs, your cash will only be tax deductible when used for capital home improvements, such as remodels and renovations.

I hope this helps!