Cash Out Refinance vs Home Equity Loan (Key Differences)

Cash Out Refinance vs Home Equity Loan (Key Differences)

Thinking of tapping into your home’s equity for a major expenditure like home renovations, college expenses or to pay back high-interest debts? Unsure whether a cash out refinance loan vs a home equity loan is a better choice for you? Fret no more, ‘cause we’re about to lay down a little pro-con information that will help you understand which is the right one for you.

Cash out refinance vs home equity loan head-to-head comparison…

First thing to know: While both a refinance loan and a home equity loan will let you access your home’s equity, they differ in the way they “attach” themselves to your property. A refi loan is simply a brand-new mortgage that replaces your old mortgage, while a home equity loan is a loan in addition to your existing mortgage. That means that with a home equity loan, you’ll still be paying your regular mortgage and you’ll also need to pay the monthly payment for your home equity loan.

The biggest “pro” in favor of a cash-out refi: Since a refi is a first-position mortgage – that is, it’s the primary loan on your home – the interest rates are usually lower. Shopping for a refi is pretty much the same as shopping for any other mortgage, and you have access to the same low rates as someone who’s buying a home.

The biggest “pro” favoring a home equity loan is also the biggest “con” associated with a refinance loan: Home equity loans have no closing costs, and that can mean a savings of hundreds – even thousands – of dollars compared to a cash-out refinance loan, which typically comes with all the same closing costs as a purchase mortgage.

Now, that said, there are a couple of common sense elements to take into consideration. First, if you can’t afford a monthly home equity payment on top of your existing monthly mortgage payment, a home equity loan is not for you. What’s more, unless you really, really need the money, a refi loan typically doesn’t make sense if it means you need to pay a higher interest rate than the rate on your current mortgage. Likewise, if you don’t have plans to stay in your home for several years, paying all those closing costs that are associated with a refi loan may not make sense either. And if you’ve been paying on your home for a long time – say, 20 years of a 30-year mortgage – it may not make sense to refinance either, since you’d be at the point where your payments are being applied mostly to the principal (in plain English, you’d be building equity more quickly).

Sadly – for you – what it usually comes down to is crunching the numbers. So shop around, take advantage of available calculators, and take the time to make sure the loan you choose is the smartest financial move for you.