Refinancing but not sure now

[Nate R.]

I started a refinance application on my residence and I'm kind of having some second thoughts about it. It appraised at $370k, with about $189 left on the first mortgage balance. I also have a HELOC with a limit of $62,000 (based on an old appraisal).

I got a rate of 4.5% on a 30-year fixed, with closing costs coming in around 2% (not including prepaids). I was in a bit of a hurry due to other commitments like work and didn't spend more time shopping around, but I know I could probably beat this today. That's not the main issue, but I felt pressured on a couple of occasions by the lender. I think he was lying when he said interest rates have gone up since the application. I follow the Treasury market and I've seen rates come down in the past few weeks. Maybe it's not a significant difference but that bothers me.

The main issue is whether it's even a good idea to blow up my first mortgage, at 3.875%, and replace it with a new first mortgage for $296k at 4.5%. My HELOC is prime + 1.25, which today comes in at 6.75%.

My goal is to get more capital for syndication deals with holds anywhere from 5 - 10 years, or possibly for other investments like stocks. My thinking is that interest rates could go up, so a floating rate loan could turn painful in a rising rate scenario. 

I created a spreadsheet to analyze various scenarios. First, using a HELOC. Here are my payments on a 75% LTV HELOC max draw (based on the new appraisal) plus first mortgage for various interest rates:

Payments	First mortgage	HELOC	Total
At 6.75%	1676	587	2263
At 7.75%	1676	646	2322
At 8.75%	1676	707	2383
At 10%	1676	786	2462
At 18%	1676	1337	3013

In the refinance scenario, my payment would be $2182/mo. In any scenario, the payment would be lower to refinance, unless I can find a HELOC with a lower rate. I've seen some promo rates, but I assume that they go up after some period of time.

Also, I looked at the expected equity plus cash-out amount after 5 years, assuming 3% annual appreciation:

Sell after 5 years	First mortgage balance	HELOC balance	Cash	Value	Equity	Total (Equity + Cash)
End at Year 5 (6.75%)	$175,538	$82,034	$88,500	$42,8931	$171,359	$259,859
One percent higher (7.75%)	$175,538	$83,296	$88,500	$42,8931	$170,097	$258,597
Two percent higher	$175,538	$84,077	$88,500	$42,8931	$169,316	$257,816
At 10%	$175,538	$84,913	$88,500	$42,8931	$168,480	$256,980
At 18%	$175,538	$87,679	$88,500	$42,8931	$165,714	$254,214

For refinance:

First mortgage balance	Cash	Value	Equity	Total (Equity + Cash)
$269,827	$100,280.00	$428,931	$159,104.00	$259,384.00

I assumed a 5 year hold since that seemed likely, based on the fact most Americans don't own their homes for longer than this. I think that sounds about right for us. 

I assumed that the refinance would cost me a lot more, but it's clear that it's about the same as a HELOC for 5 years, and if interest rates go up, refinancing comes out ahead.

The advantage to the HELOC seems to be that you can pay it off and then you have the lower payments on the first mortgage vs. the higher payments when you refinance. But if you plan on carrying the debt for longer periods of time, I don't think there is any advantage to using a HELOC. Plus, there are the following disadvantages:

- Bank loans can be called

- Lines of credit can be frozen so if you don't use them, you risk not having access to the funds

- Interest rates and payments can go up

I guess I'm trying to avoid black swans and blowing up of using short-term credit to invest in long-duration assets like real estate.

But, perhaps the fear of rising interest rates is overblown? Right now, it looks like we might have a recession in a year or so.

Does my reasoning and analysis make sense?

[Nate R.]

@Caleb Heimsoth Thanks, care to elaborate?

This was probably the most helpful article I could find:

https://www.housingwire.com/blogs/1-rewired/post/47503-op-ed-how-to-decide-between-a-heloc-and-a-cash-out-refinance

Excerpt:

I think it is safer to use 30-year fixed-rate loan to cash out up to 80% while rates are low and open a HELOC up to 100% CLTV for more of an emergency reserve fund, or temporary-use fund after.

When you get all that equity, do yourself a favor and create a compounding liquid reserve with years of payments in waiting, because things will change. Your income could go up, you could lose a job, or you could be faced with a life-changing medical event. If and when those things occur, a reserve will allow you time to make the best decision possible and avoid default.

Ultimately, even if you disagree here and take out a large HELOC, I have seen what happens on the back end of high-balance HELOC debt. It gets paid off with the sale of the property, consolidated into a first mortgage, and even sometimes paid-off with large unexpected earnings.

Whatever happens, make sure you know how you are going to pay it off. If the most likely way you will get rid of a high-balance HELOC is a consolidation into a first mortgage, why not do it while the interest rates are better? 

The gist of the article is that the purpose of the debt should dictate the decision. If it's short-term, then a HELOC makes sense. If the plan is to carry the debt and eventually refinance into a new first mortgage, go ahead and take the long term fixed interest debt while interest rates are low.

I guess I'm already leaning towards refinancing and the article is confirmation.