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If you are a homeowner, a home equity loan can help you cover repairs, home renovations and other costs that may arise.
But there may come a time when you want to refinance your home loan, whether you want lower your monthly payment or take advantage of lower interest rates.
Refinancing a home equity loan isn’t the right decision for everyone – it depends on your financial goals and your situation. This guide will tell you how to refinance a home loan, the pros and cons, and when it might be the right strategy.
With Credible, you can easily compare mortgage refinance rates from different lenders in minutes.
What is a home equity loan?
A home equity loan is a type of second mortgage. It allows you to borrow against the equity in your home – the difference between the value of your home and the amount you still owe on it – and get a lump sum payment in return.
You then repay the loan on a monthly basis (in addition to your existing mortgage) over a long period of time, typically five to 30 years. But be careful – if you can’t repay your home equity loan, the lender could foreclose on your home.
Owners often use home equity loans to cover the cost of home repairs or improvements, but that’s not the only reason you can use them. Other uses include paying off higher interest debt, covering medical expenses, and paying school fees.
Can I refinance my home loan?
You can refinance a home equity loan just like you can with a traditional mortgage.
Here are some reasons why you might want to do this:
- Lower your interest rate. Interest rates fluctuate over time. If rates fall below what you’re currently paying on your home loan, you may want to refinance take advantage of a reduced rate and save money. Depending on the rate difference, you could save significantly on interest.
- Reduce your monthly payment. Refinancing can also lower your monthly payment, which can help free up money for other financial goals or to deal with a financial emergency. The easiest way to lower your payment is to refinance into a longer term loan or one with a lower interest rate.
- Change your repayment terms. While you can opt for a longer repayment term to lower your monthly payments, you can also refinance to a shorter term loan to pay it off faster and lower your overall interest costs.
- Tap on additional equity. You may be able to access more of your home equity through refinancing, which can allow you to cover other expenses.
- Switch from an adjustable rate to a fixed rate. Most home equity loans come with fixed interest rates, but if yours has an adjustable rate (also called variable rate), you can refinance to a fixed rate loan for more stability. An adjustable rate loan can change over time, making it harder to budget for.
You can compare mortgage refinance rates all in one place with Credible.
Home equity loan vs cash refinance
A cash refinance is an alternative to a home equity loan. Instead of taking out a second mortgage in addition to your own, a cash refinance replaces your current mortgage with a new loan for more than you owe on your existing mortgage. You will pocket the difference in cash. You can still use this lump sum payment for other expenses, but you won’t have the second monthly payment that comes with a home equity loan.
A cash refinance and home equity loan require you to have some equity in your home.
You could choose a cashing in a refi on a home equity loan if interest rates drop below your current loan rate or if you just don’t want a second monthly payment. A home equity loan may be preferable if you don’t want to touch the terms of your first mortgage.
In some cases, you may be able to refinance in cash and use those funds to pay off your home equity loan. It depends on how much equity you have in your home. Lenders typically allow you to borrow up to 80% of your home’s equity for a cash refinance.
Advantages and disadvantages of refinancing a mortgage
Refinancing your home equity loan can be a smart move, but it’s not right for everyone. Here are some pros and cons you’ll want to consider before going ahead.
Benefits of refinancing a home loan
- You could reduce your interest rate or your monthly payment. Depending on current interest rates, your credit, and the term of the loan you choose, you could get a lower rate, a lower monthly payment, or both by refinancing.
- You may be able to pay off your loan sooner. Refinancing can also help you pay off your loan early if you shorten the term of your loan.
- You may be able to tap into the equity in your additional home. If you’ve gained more equity in your home since you first took out your loan, refinancing can allow you to tap into it and get a bigger lump sum payment.
Disadvantages of refinancing a home loan
- It comes with closing costs. The typical home equity loan comes with upfront closing costs of 2% to 5% of the loan amount, and with a cash refinance, you’ll typically pay 3% to 6% closing costs. If you don’t have it handy, it might not be the best solution.
- This exposes your home to additional risk. Home equity loans use your home as collateral. Having both a home equity loan and a mortgage can put you at higher risk of foreclosure if you lose your job or experience other financial difficulties.
- You won’t always get a lower rate. Your new interest rate will depend on the current rate environment and your credit. If your credit score is lower than it was when you originally took out the loan, refinancing could mean a higher rate than you currently have.
How to refinance a home equity loan
Refinancing a home equity loan is a fairly simple process.
Here is a breakdown of the steps you will need to follow:
- Check your credit. You will generally need a credit score of at least 680 to refinance a home equity loan. Generally, the higher your score, the better the rates you will qualify for.
- Calculate the equity in your home. The equity in your home will determine how much extra money you can access through refinancing. Equity is the value of your home minus the total balance of your mortgage.
- Find a lender. You don’t have to use your current lender to refinance. You should get quotes from at least three different mortgage lenders to ensure you get the best rate and terms for your situation.
- Complete the application. Once you have selected a lender, you will need to complete and submit an application. This will require a rigorous credit check, which can temporarily lower your credit score by a few points. You will also need to submit financial documents, such as tax returns, W-2 forms, and pay stubs.
- Close your loan. At closing, you will sign your documents and pay your closing costs.
With Credible, you can easily compare mortgage refinance rates from multiple lenders in as little as three minutes.