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Home Equity Loan Basics

Cash-out refinance or home equity?

If you’re interested in borrowing against your home’s available equity to pay for other expenses, you have choices. One option would be to Glossary Term: refinance and get cash out. Another option would be to take out a Glossary Term: home equity loan or Glossary Term: line of credit. Here are some of the key differences between a Glossary Term: cash-out refinance and a home equity loan or a home equity line of credit (HELOC):

Loan terms

Cash-out refinance: pays off your existing first Glossary Term: mortgage. This results in a new mortgage loan which may have different Glossary Term: terms than your orginal loan (meaning you may have a different type of loan, a different Glossary Term: interest rate as well as a longer or shorter time period for paying off your loan). It will result in a new payment Glossary Term: amortization schedule, which shows the monthly payments you’d need to make in order to pay off the mortgage Glossary Term: principal and interest by the end of the loan term.

Home equity loan or line of credit: is usually taken out in addition to your existing first mortgage; rather than replacing it, it will have its own term and repayment schedule, separate from your first mortgage, and is considered a second mortgage. However, if your house is completely paid for and you have no mortgage, some lenders allow you to open a home equity line of credit in first lien position, meaning the home equity line will be your first mortgage.

How you receive your funds

Cash-out refinance: you receive a lump sum when you close your refinance. The loan proceeds are first used to pay off your existing mortgage(s), including closing costs and prepaids, and any remaining funds are yours to use.

Home equity loan: you receive a lump sum when your loan closes.

Home equity line of credit: you’ll receive access to a line of credit that you can draw from as needed, up to your credit limit. The draw period is usually 10 years. Following the draw period, a repayment period begins, usually 15 years. During the repayment period, you will repay the remaining principal and interest and you may no longer draw funds from your line of credit.

Interest rates

Cash-out refinance: can typically offer a lower interest rate than a home equity loan. A Cash–out refinance is available on both a fixed rate or an adjustable rate mortgage. Your lender can provide information about fixed rate and adjustable rate mortgage options so you can decide which best fits your situation.

Home equity loans: are Glossary Term: fixed-rate loans. Throughout the life of the loan, you’re protected from payment fluctuations as the interest rate remains fixed. Rates for home equity loans can often be higher than a cash-out refinance or home equity line of credit.

Home equity lines of credit: usually have a lower interest rate than a home equity loans or cash-out refinances. The interest rate is Glossary Term: variable and changes with an Glossary Term: index (typically The Wall Street Journal Prime Rate). Your interest rate will vary with changes in the index (meaning if the index increases or decreases, your rate will increase or decrease accordingly). Your lender may also offer you a fixed-rate loan option. Bank of America home equity lines of credit include this fixed-rate conversion option.  This would allow you to convert all or just a portion of the outstanding variable rate balance to a fixed rate loan.

Closing costs

Cash-out refinance: will incur Glossary Term: closing costs similar to your original mortgage.

Home equity loans and lines of credit: usually have no, or relatively small, closing costs.

If you think that borrowing from your available home equity could be a good financial option for you, talk with your lender about cash-out refinancing, home equity loans, and home equity lines of creditFootnote 1. Based on your personal situation and financial needs, your lender can provide the information you need to help you choose the best option for your situation.