If you’re considering ways to tap into your home’s equity, you might be stuck between two major options: refinance mortgage rates and home equity loans. Both options offer ways to access cash, but the right choice for you depends on your goals, financial situation, and how you plan to use the funds. Let’s break down the differences, benefits, and drawbacks of each to help you make an informed decision.
What’s the Difference?
At first glance, both a refinanced mortgage and a home equity loan seem like they do the same thing – help you borrow against your home’s equity. However, the way they work is fundamentally different.
- Refinance mortgage rates: When you refinance your mortgage, you’re essentially replacing your current mortgage with a new one, typically at a lower interest rate. This can help you reduce your monthly payments, shorten your loan term, or access some of your home’s equity in cash through a cash-out refinance. It’s like hitting the reset button on your mortgage.
- Home equity loan: On the other hand, a home equity loan is a separate loan where you borrow against the equity you’ve built in your home. You’ll still keep your original mortgage, and the home equity loan functions as a second loan on top of your primary mortgage. Typically, this option has a fixed interest rate, and you repay it through monthly installments over a set period.
Now that we’ve got the basic definitions down, let’s dive into the pros and cons of each.
Why Choose a Refinance Mortgage?
There are several reasons why you might opt for refinancing your mortgage over taking out a home equity loan. Refinancing can be a great option for those looking for long-term savings or those who want to change their mortgage structure altogether.
1. Lower Monthly Payments with a Better Rate
If you originally locked in a mortgage rate when the market was high, but now refinance mortgage rates are lower, refinancing can be a great way to reduce your monthly payments. Even if you don’t need to access equity, refinancing could result in substantial savings over time.
Let’s say you have a mortgage of $250,000 at a 5.5% interest rate. If you can refinance to a 4% rate, that could save you hundreds of dollars per month and thousands of dollars over the life of the loan. This is especially appealing if your goal is to lower your financial burden without taking on additional debt.
2. Cash-Out Refinancing: Access Home Equity at a Low Rate
If you’re looking for cash to cover expenses like home renovations, debt consolidation, or paying for a big life event, cash-out refinancing can be an attractive option. With a cash-out refinance, you refinance your home for more than what you owe, and the difference is given to you in cash. Since it’s part of your primary mortgage, it typically comes with a lower interest rate than a home equity loan.
For example, if your home is worth $300,000 and you owe $150,000, you could refinance for $200,000 and take the $50,000 difference. This can be a good way to get funds for large expenses while keeping your interest rate relatively low.
3. Simplified Loan Management
When you refinance your mortgage, you only have one loan to manage. Having multiple loans, such as a primary mortgage and a home equity loan, can sometimes complicate your financial life. By consolidating both loans into a single refinanced mortgage, you streamline your payments and reduce the risk of missing payments, which could hurt your credit score.
4. Potentially Lower Closing Costs
Refinancing doesn’t always come with significant upfront costs. Depending on your lender, the closing costs for a mortgage refinance can be lower than the costs associated with securing a home equity loan, especially if you’ve already built up significant equity. Plus, some lenders even offer no-cost refinances, where the closing costs are rolled into the loan itself, so you don’t have to pay anything out-of-pocket.
Why Choose a Home Equity Loan?
While refinancing can be a good option for some, a home equity loan may be a better choice for others. Here’s why:
1. Keep Your Current Mortgage Rate
If you’re locked into a great mortgage rate and don’t want to risk higher rates with a refinance, a home equity loan might be the better option. Since a home equity loan is a second loan on top of your existing mortgage, you can keep your current mortgage intact. This can be especially beneficial if you’ve got a great rate locked in and want to avoid the possibility of higher rates when you refinance.
2. Fixed Rate and Terms
Home equity loans tend to come with fixed interest rates, so you know exactly what your monthly payments will be throughout the loan term. This is different from refinances, which can sometimes come with adjustable-rate mortgages (ARMs), where the rate and your payment could increase over time.
Having a fixed-rate option is appealing if you’re planning for long-term stability and want to avoid surprises. Plus, many home equity loans offer flexible repayment terms, ranging from 5 to 30 years.
3. Use Funds for Specific Purposes
If you have a specific project or goal in mind, like home renovations or paying off high-interest debt, a home equity loan can provide a set amount of money that you can use for those purposes. Many lenders even offer home equity loans for specific uses, like remodeling loans, where the loan amount is tied to the scope of work you plan to complete.
4. No Need to Touch Your Original Mortgage
With a home equity loan, you’re not altering your primary mortgage, which means you don’t have to go through the hassle of refinancing. For many people, especially those with low mortgage rates, leaving the primary mortgage intact while taking out a secondary loan for immediate expenses can feel like a more practical solution.
Which Is Better for You?
The choice between refinancing and a home equity loan depends on your financial goals and personal situation. Here are some factors to consider when deciding which option might be best for you:
- Refinance Mortgage Rates: Choose this option if you’re looking to lower your monthly payments, take advantage of low interest rates, and possibly access a lump sum of cash through cash-out refinancing. Refinancing is also a great choice if you want to consolidate your loans into one manageable payment and simplify your financial life.
- Home Equity Loan: Opt for a home equity loan if you want to access a set amount of money for a specific purpose (like home improvements or debt consolidation) while keeping your original mortgage rate intact. Home equity loans are also ideal if you prefer the stability of fixed rates and predictable monthly payments.
Ultimately, the best option comes down to your financial priorities, how much equity you have in your home, and whether you need the cash immediately or prefer to lower your monthly mortgage payments. Each option has its own set of pros and cons, so it’s important to assess your unique circumstances before making a decision.
No matter which route you choose, be sure to shop around and compare interest rates, loan terms, and closing costs to get the best deal. If you’re not sure where to start, speaking with a financial advisor can also help clarify the right option for your needs.
Refinancing or taking out a home equity loan are both powerful financial tools, but they’re not one-size-fits-all solutions. Understanding your options fully will put you on the path to making the right choice for your financial future.