Home equity loan refinances can reduce your monthly payments, though there are some risks to be aware of.
As home equity loan rates continue to decline, homeowners may consider a home equity loan refinance to help them save thousands on monthly payments. While it might sound intimidating, the process resembles refinancing a conventional mortgage. That said, there are still some risks you should be aware of, and just because interest rates are down does not mean a refinance is the right move for you.
We worked with a mortgage broker to explain the home equity loan refinance process, why some people should consider it, and why others shouldn’t.
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What is a Home Equity Loan Refinance?
A home equity loan refinance is when a borrower adjusts the rate or term of a home equity loan to reduce their monthly payments or switches from an adjustable interest rate to a fixed rate. According to Reed Letson, mortgage broker and owner of Colorado-based Elevation Mortgage, this can be done with a home equity loan or line of credit (HELOC).
“It will work very similarly to a mortgage refinance,” Letson says. “You'll do a payoff of the current one and roll that into the new [loan].”
Reasons to Consider a Home Equity Loan Refinance
Letson says the benefits of refinancing a home equity loan are similar to refinancing your home mortgage:
- Lowers your interest rate
- Reduces your monthly payment
- You can change from an adjustable rate to a fixed rate
- Extend the loan term to decrease payments
- Shorten the loan term to pay off debt faster
- Cash out additional equity if your home value has increased
Risks of a Home Equity Loan Refinance
The potential drawbacks of a home equity loan refinance are similar to those of a conventional mortgage loan.
- Closing costs/fees outweigh the savings. “If it costs $6,000 to refinance but you are only saving $150 per month, it would take 40 months to break even,” Letson says. “While the savings are good, I see the cost outweighs the benefits.”
- Extended timeline: “Resetting the loan term back to the original term will cost you more interest,” Letson says. “Let's assume you had a 10-year home equity loan for three years. You want to refinance it but you will have to get it on a 10-year instead of seven years. To compare true savings, compare what is left on your loan with a new loan equaling the loan term.”
- “If you plan to sell the home in a year, then refinancing might not be a great idea even if you are saving $300 a month,” Letson says. “Your breakeven won't occur before you sell. Now if you are getting cash out to make updates to fetch a higher price, that's a different story.”
How Does Home Equity Loan Refinancing Work?
Refinancing a home equity loan follows a process similar to when you first applied. You’ll want to compare interest rates, apply to multiple lenders, and choose the best offer, including the annual percentage rate (APR) and repayment terms to meet your needs.
RELATED: Best Cash-Out Refinance Lenders
If you have enough equity, you can replace your existing home equity loan with a new one that’s the same size or larger.
Say you have an existing home equity loan worth $50,000, your home is worth $400,000 and you have a balance of $200,000 remaining on your first mortgage. Your debt totals $250,000. To get your combined loan-to-value (CLTV) ratio, divide $250,000 by $400,000. The result is 62.5%, which makes your home equity 37.5%.
The less equity you borrow against, the lower your interest rate could be. Some lenders may require a CLTV no higher than 60% or 70% to give you the lowest interest rate. In the above example, assuming you don't take out additional equity and have a good credit score, you could be eligible for a lower interest rate.
Should You Refinance a Home Equity Loan?
Whether you should refinance depends on your financial situation and the wider market. If you need to access more cash from the equity in your home, a cash-out refinance can be a good solution. Likewise, if interest rates have dropped substantially, locking in a lower interest rate can help you save more. You can also learn how to pay off your mortgage using a HELOC.
Why You Should Trust Us
Benzinga has offered investment and mortgage advice to more than one million people. Our experts include financial professionals and homeowners, such as Anthony O’Reilly, the writer of this piece. Anthony is a former journalist who’s won awards for his coverage of the New York City economy. He’s navigated tricky real estate markets in New York, Northern Virginia and North Carolina.
For this story, we worked with Reed Letson, a mortgage broker and owner of Elevation Mortgage in Colorado.
FAQ
Can a home equity loan be refinanced?
Yes, a home equity loan can be refinanced to lock in lower interest rates, adjust the loan term, or switch from an adjustable interest rate to a fixed rate.
What is the monthly payment on a $50,000 home equity loan?
The monthly payment on a $50,000 home equity loan varies based on interest rates and your loan terms, but generally, it will range from about $350 to $650.
What is the major disadvantage of a home equity loan?
The major disadvantage of a home equity loan is that it acts like a second mortgage, meaning nonpayment on that loan could result in foreclosure even if you keep up with your primary mortgage.
Sources
- Reed Letson, owner of Elevation Mortgage
About Anthony O'Reilly
Anthony O’Reilly is an updates editor for Benzinga. He’s won numerous journalism awards for his coverage of the New York City economy and Long Island school district budgets.