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Get the latest tips you need to manage your money — delivered to you biweekly. LoadingSomething is loading. Thanks for signing up! Access your favorite topics in a personalized feed while you're on the go. download the app Email address By clicking ‘Sign up’, you agree to receive marketing emails from Insider as well as other partner offers and accept our Terms of Service and Privacy Policy. Owning a home lets you build up equity that you can turn into cash when you need it, whether for home repairs, your child's college tuition, to pay off debts, or for any other financial needs. Cash-out refinancing and home equity loans are two of the most popular tools available to do this. But they aren't created equal. Here's what you need to know about each to help decide which is the best choice for your situation. Cash-out refinancing vs. home equity loan: At a glanceCash-out refinancing and home equity loans both allow you to access your home equity with a single lump-sum payment. The main difference between the two is:
In both cases, there are no restrictions on how you can use the money. Many people use cash-out refinances and home equity loans to pay for home renovations or repairs. Since mortgage loans often carry lower interest rates than other financial products, some homeowners see cash-out refinancing as a good way to consolidate other debts. What is cash-out refinancing?A cash-out refinance works like this: You apply for a new mortgage loan that's larger than your current one. Once approved, that loan is used to pay off your old one, and you get the difference back in cash at closing. Cash-out refinances come with either adjustable or fixed interest rates with terms between 15 and 30 years. Typically, your loan-to-value ratio (LTV) can be as much as 80% of your home's value. There will also be closing costs — usually around $5,000 on average. The biggest benefit of a cash-out refinance is that it comes with no extra payment. It also typically comes with a lower interest rate than a home equity loan would. With a cash-out refinance, your mortgage interest payments are tax deductible. Depending on your rate and loan balance, this could substantially reduce your taxable income. Important: You can only write off mortgage interest if you itemize your returns. Doing so would mean forgoing the standard deduction, which may or may not be in your best financial interest. Talk to a tax professional before choosing to itemize your returns. The downside of cash-out refinancing is that it replaces your current mortgage, which could mean trading a low rate for a higher one. There are also closing costs to consider. If you think you might sell the home soon, those costs may not be worth it. "If you're going to borrow the money long-term, cash-out refinancing makes sense," Cohn says. Pros Cons
Example of cash-out refinancingSay your home was worth $500,000, and your current mortgage loan balance was $300,000. The cash-out refinancing process would look something like this:
Important: The above numbers are just examples. The exact amount of money you can access will depend on your home's value, how much equity you have in the property, and your credit score. What is a home equity loan?A home equity loan is a type of second mortgage. Unlike cash-out refinancing, it doesn't replace your current mortgage loan. Instead, it's a loan in addition to your original mortgage — meaning you'll have two monthly payments. Home equity loans typically come with fixed interest rates and terms of anywhere from five to 30 years. These loans also come with closing costs, though they're typically lower than what you'll see on a cash-out refinance. Some lenders will even cover them entirely. In most cases, home equity loans let you access up to 80% of your home value — across both your home equity loan and your primary mortgage. Some lenders may have limits as high as 90% for certain borrowers. The main drawback of a home equity loan is that it comes with a second monthly payment. Rates can also be higher, and your interest costs may not be tax-deductible. With home equity mortgages, you can only deduct the interest if you use the funds to "buy, build, or substantially improve" your home. And even then, you'd need to itemize your returns to take this deduction. Important: Before you take out a home equity loan, take a careful look at your household's financial picture. Adding a second payment may require rearranging your budget. On the upside, home equity loans let you keep the terms of your original mortgage, which might be good if you're very far into your amortization schedule when more of your payments are going toward your principal balance and not toward interest. It's also smart if interest rates on traditional mortgages are rising, and you don't want to lose the low rate you already have. "For homeowners whose primary mortgage rate is below the current market rates, a home equity loan is more likely to be the better choice," says Nicole Straub, SVP and head of Discover Home Loans. "By choosing this option, it allows them to keep the low rate they have while also allowing them to tap into the equity they have in their home." Pros Cons
Example of a home equity loanSay your home's value is $500,000. Since home equity loans typically allow for loan-to-value ratios of 80%, you could access as much as $400,000 across both your main mortgage and a new home equity loan. If your current mortgage balance was $350,000, for example, a home equity loan could presumably offer you up to $50,000 in upfront cash ($400,000 - $350,000). To get your home equity loan, you'd file an application with your chosen lender, submit documentation, and have your house appraised. Once you pay your closing costs and sign the paperwork, you'd receive your lump-sum payment a few days later. You'd then begin making monthly payments toward your home equity loan starting the next month. Putting it all togetherBoth home equity loans and cash-out refinancing can help you turn equity into cash. But the best choice depends on your unique budget, the terms of your original mortgage, and your long-term plans as a homeowner. Either way, home equity loans and cash-out refinances will likely save you money compared to other financial products you may be considering. If you're not sure which product is right for your situation, reach out to a mortgage broker or financial advisor for help. You can also ask lenders for quotes for both products and compare the two options side by side. Aly J. Yale Aly J. Yale is a freelance writer, specializing in real estate, mortgage, and the housing market. Her work has been published in Forbes, Money Magazine, Bankrate, The Motley Fool, The Balance, Money Under 30, and more. Prior to freelancing, she served as an editor and reporter for The Dallas Morning News. She graduated from TCU's Bob Schieffer College of Communication with a focus on radio-TV-film and news-editorial journalism. Connect with her on Twitter or LinkedIn. What is the downside of a cashYou owe more: With a cash-out refinance, your overall debt load will increase. No matter how close you were to paying off your original mortgage, the extra cash you obtained to pay the contractor is now a bigger financial burden. This also reduces your proceeds if you were to sell.
What is the difference between cashYou can extract some of the equity in your home with a cash-out refi. In a rate-and-term refinance, you exchange the current loan for one with better terms. Cash-out loans generally come with added fees, points, or a higher interest rate, because they carry a greater risk to the lender.
Is it easier to refinance or get a HELOC?Typically, cash-out refinances are easier to qualify for than HELOCs. That's because a HELOC is technically a second mortgage, meaning that lenders take on greater risk with these types of loans.
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