Updated: November 19, 2024
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A home equity loan lets you borrow against the equity in your property, providing a lump sum with fixed payments and a set interest rate. Refinancing can help you secure a lower rate or adjust your loan term for easier payments. Understand your options and the potential benefits before deciding.
You can refinance a home equity loan to secure better terms, like a lower interest rate or more flexible repayment options.
Consider closing costs and your home’s current value before deciding if refinancing suits your situation.
Refinancing may lower your monthly payments, but extending the loan term could increase the total interest.
Maria, a graphic designer, took out a home equity loan five years ago to renovate her kitchen. With interest rates now lower, she wonders if refinancing could help reduce her monthly payments.
Refinancing replaces the old loan with a new one, often with better terms like a lower rate or a longer repayment period. For Maria, this could mean saving on interest or adjusting her loan to better suit her budget.
Refinancing a home equity loan is different from refinancing a mortgage. A mortgage refinance replaces your primary home loan, while refinancing a home equity loan changes only the terms of the secondary loan tied to your home’s equity.
A mortgage refinance lets you adjust the length of your loan. You can extend the term to lower monthly payments or shorten it to pay off your mortgage faster. With a home equity loan refinance, only the portion of equity you’ve borrowed against is affected, leaving your primary mortgage unchanged.
Interest rates also differ. Mortgage refinances often have lower rates because they’re tied to your primary loan, while refinancing a home equity loan may come with higher rates since it’s a smaller secondary loan.
Refinancing a home equity loan makes sense in many situations. It offers options that may suit your current needs, whether for better terms or more flexibility. Here are five common reasons you might want to refinance a home equity loan:
Lower interest rates
Refinancing could reduce your interest payments if market rates have dropped since you first took out your loan. For example, if you initially borrowed at 6% and rates have fallen to 4%, a refinance could save you money over time.
Lower monthly payments
If you're struggling with monthly payments, refinancing into a longer-term loan can help reduce them. For instance, extending the term from 10 to 15 years would lower your costs, making them more manageable.
Switch from variable to fixed rates
If your current home equity loan has a variable rate, consider locking in a fixed rate through refinancing. This would give you predictable monthly payments and protect you from potential rate increases.
Access more cash
If your home's value has increased, you can refinance and borrow more against your equity. For example, refinancing can unlock additional equity if you need funds for a large expense like home repairs or education.
Consolidate debt
Refinancing allows you to consolidate higher-interest debts into one payment. For instance, you can use your refinanced loan to pay off credit cards, simplifying your finances and potentially lowering overall interest costs.
Refinancing a home equity loan can be smart, but it’s not always the right option for everyone. Before deciding, consider your financial situation and the current market. Here are some factors to think about:
How long do you plan to stay in your home?
Refinancing might not make sense if you plan to move in a few years because the savings from a lower interest rate might not outweigh the upfront refinancing costs.
Can you afford closing costs?
Refinancing often comes with fees like closing costs, which can be substantial. If these upfront costs strain your finances, refinancing might not be worth it, even if the new loan offers better terms.
Is your credit score strong enough to qualify for better rates?
Lenders base interest rates on a borrower's credit score. If your score has dropped since you took out your original loan, you may not qualify for better rates, making refinancing less appealing.
Will your new loan terms match your financial goals?
Consider what you want from refinancing — a lower monthly payment, paying off the loan faster or borrowing more. Ensure the new loan terms align with your goal.
What is the current housing market like?
If home values in your area have dropped, your home equity may be lower than when you took out the loan. This can affect your ability to refinance or increase the rates and terms lenders offer.
Refinancing a home equity loan requires careful planning. From researching lenders to closing the new loan, each step helps ensure a smooth process. Here’s a simple guide:
Your credit score impacts the rates and terms you qualify for. Before refinancing, review your credit report and take steps to improve your score if necessary, such as paying down existing credit card debt or correcting any errors.
Lenders need to know how much your home equity is. Get an estimate of your home’s current value, and ensure you’ve paid down enough of the original loan to make refinancing worthwhile.
Lenders offer different rates and terms. Compare offers from multiple lenders to find one that fits your goals, such as lower interest rates or better repayment terms.
Gather documents such as proof of income, tax returns and a property appraisal. Being organized shows lenders you're well-prepared and speeds up approval.
After reviewing the loan options, submit your application to your chosen lender. Carefully review all terms before signing to avoid surprises later.
Once the loan is approved, finalize the process by signing closing documents. Before completing the refinance, understand the fees and new payment schedule.
Refinancing a home equity loan offers flexibility but comes with risks. Here are some things to watch out for before refinancing:
Foreclosure risk
Your home is collateral, so missing payments on a refinanced loan could lead to foreclosure. Ensure the new loan terms are affordable in the long term.
More interest over time
Extending your loan term might lower monthly payments, but it could also result in paying more interest over the life of the loan. Consider whether short-term savings are worth the long-term cost.
Variable rate risk
If you refinance into a loan with a variable interest rate, your payments could increase over time as rates rise. Be prepared for potential changes in monthly payments.
Impact on future borrowing power
Increasing your home equity loan could reduce your ability to borrow against your home, limiting options like home equity lines of credit or other types of financing.
Refinancing a home equity loan can affect your total loan cost, especially with changing mortgage rates. Refinancing options offer unique benefits based on your financial goals and situation. Here are three common alternatives to consider:
Refinancing Option | Why Consider It | Ideal Borrower Profile |
|---|---|---|
Another home equity loan: Replaces your existing home equity loan with a new one, often with different terms. | You may secure a lower interest rate or change your loan term, leading to potential savings. This option also provides fixed payments and a stable interest rate. | Prefers predictable, fixed payments and want a straightforward loan structure. Ideal for those looking to lock in a lower rate. |
Home equity line of credit (HELOC): Switches your loan to a line of credit where you borrow as needed, with variable interest rates. | A HELOC offers flexibility — you borrow only what you need when needed. It’s useful if you need ongoing access to funds rather than a lump sum. | Wants flexible access to credit and is comfortable with variable interest rates. Great for those planning ongoing projects or expenses. |
Cash-out refinance: Replaces your mortgage and home equity loan with a new mortgage, allowing you to borrow more based on your home’s equity. | It consolidates your mortgage and home equity loan into one payment. You can also access more cash if your home’s value has increased. | Has substantial home equity and wants to simplify their payments or need access to a larger amount of money for major expenses. |
When deciding between a cash-out refinance and a home equity loan, understand how they work and their benefits. Both let you tap into your home's equity but differ in structure, costs and flexibility.
Cash-Out Refinance | Home Equity Loan |
|---|---|
Replaces current mortgage with a new, larger loan. The difference between your new mortgage and your old balance is given to you as cash. | Provides a second loan that lets you borrow against your home’s equity, separate from your primary mortgage. |
Consolidates existing mortgage and equity loan into a single payment. | Two payments: You’ll manage your original mortgage and the home equity loan as separate debts. |
Offers potential for lower interest rates since it's part of your primary mortgage, especially when rates are low. | Fixed interest rates offer predictable payments, though often at a higher rate than a primary mortgage. |
Best for large cash needs like home renovations or paying off high-interest debt. | Best for smaller lump-sum expenses like minor renovations or consolidating smaller debts. |
May include higher closing costs since you're refinancing the entire mortgage. | Lower closing costs since only the equity loan is being taken out. |
Both options help unlock your home’s equity, but the better choice depends on your financial goals and preferred payment flexibility.
Refinancing a home equity loan involves many questions about costs, timing and qualifications. We addressed common concerns to help you understand how refinancing works and whether it suits your situation.
Consolidating can simplify payments and lower your overall interest rate. Still, you must weigh closing costs against potential savings. It could be worth it if you plan to stay in your home long enough to break even on those costs.
Refinancing both loans together can simplify payments and potentially secure a better rate. However, if your mortgage already has a low rate or good terms, refinancing both may not be the best option.
If you don’t qualify, consider improving your credit score, paying down debt or increasing your home equity before reapplying. You can explore other options, like negotiating with your current lender or applying for a HELOC.
A higher credit score increases your chances of getting approved and securing a lower interest rate. Lower scores may result in higher rates or make it harder to qualify for refinancing.
Refinancing into a HELOC is an option if you prefer more flexible access to your funds. However, HELOCs typically have variable interest rates, which can lead to unpredictable payments.
If you extend your loan term when refinancing, you may pay more interest over time, even with a lower rate. Shortening the term could reduce total interest but may increase monthly payments.
About Zachary Romeo, CBCA
Zachary Romeo is a certified Commercial Banking and Credit Analyst (CBCA), and the Head of Loans and Banking at MoneyGeek. Previously, he led production teams for some of the largest online informational resources in higher education, with over 13 years of experience in editorial production.
Romeo has a bachelor's degree in biological engineering from Cornell University. He geeks out on minimizing personal debt and helping others do the same through people-first content.
