Can You Refinance a Home Equity Loan?
Home equity loans and home equity lines of credit (HELOC) have proven to be very useful for homeowners since the products appeared on the scene in the banking industry. Homeowners found out that they are flexible products that allow them to save money when paying for their home and home improvements.
It’s been established that homeowners can refinance their first mortgages given a good credit history and credit score. Can homeowners refinance a home equity loan? The answer to that question is yes, but only under a given set of circumstances.
Refinancing a Home Equity Loan
Good Reasons to Refinance a Home Equity Loan:
- Interest rates fall and you can get a lower interest rate on your home equity loan or HELOC
- You need a longer term for your loan so your payment will be lower.
- You need a larger home equity loan or HELOC.
- You want a fixed interest rate on your loan instead of an adjustable interest rate.
- You want to get rid of a balloon payment at the end of your loan.
- You want a larger loan so you can take as much cash out of your home as possible.
When you take out a home equity loan or home equity line of credit (HELOC), you are adding a layer of risk to the ownership of your home. You already have a first mortgage and now you have the same thing as a second mortgage. You want to have the best terms possible for your home equity loan or HELOC to keep your risk as low as possible. You want to make your payments on time on your home equity loan.
If the economy goes into recession or something else causes your home to drop in value, you might end up owing more on your home than it is worth if you add together your first mortgage and your home equity loan. This is called being underwater on your mortgages. In this case, you may not be able to either sell your home or refinance your first mortgage or home equity loan.
If you have a home equity loan, during its term interest rates might drop. If interest rates drop and your home equity loan is at a fixed interest rate that is higher the current level of interest rates in the economy, you may want to refinance it in order to get a lower interest rate. Another circumstance is you may want to refinance your existing home equity loan if you want a longer term or a larger loan.
If you do try to refinance your home equity loan, be prepared to provide financial documentation such as pay stubs, income tax returns, and documentation of asset values. You will also need a credit score of above 700 unless you are dealing with a credit union in which case you might get by with a slightly lower score.
Many home equity loans have adjustable rates. An adjustable rate home equity loan can possibly be refinanced into a fixed rate loan which might be preferable. Many homeowners prefer the certainty associated with fixed rate loans as opposed to adjustable rate (also called variable rate) loans.
Another reason a homeowner might want to refinance a home equity loan is to reduce or extend the term of the loan. Reducing the term of the home equity loan would help the homeowner build up equity in the home. Increasing the term of the loan would be helpful if the homeowner needed to have the payments on the loan lowered.
Some home equity loans have balloon payments attached to them. A balloon payment occurs when a large portion of the loan is due and payable at a given time during the loan, usually at the end of the loan. In the case of the home equity loan, it would be amortized for a number of years with a balloon payment due at the end of the loan. Some people like to refinance their home equity loans to get rid of the balloon payment.
A cash-out home equity loan is when you refinance an existing loan with another because you want to take as much cash out of the home as possible. This is a risky move that should be undertaken with caution.
Refinancing a First Mortgage With a Home Equity Loan
Good Reasons to Refinance a First Mortgage with a Home Equity Loan or HELOC
- You plan to stay in your home a short time and have equity built up in your home.
- Your first mortgage has a high-interest rate and you can get a home equity loan or HELOC with a lower interest rate.
A lesser known use of refinancing with a home equity loan is using the loan to refinance your first mortgage. Using a home equity loan for this purpose only works for a particular group of homeowners. If you plan to stay in your home for just a few years and you have a lot of equity built up in your home, then refinancing your first mortgage with a home equity loan or line of credit might be for you.
If you obtained your first mortgage, as well as your current home equity loan or line of credit when interest rates were high, and then they dropped, you have the perfect scenario for refinancing with a new home equity loan. Some lending institutions will lend up to 95 percent of the value of your home as long as you have a high credit score, so be sure you can afford the payment. The terms of these loans range from 10-30 years. Private mortgage insurance is not usually required.
Home equity loans and home equity lines of credit are flexible and helpful to homeowners if you educate yourself on the many situations for which they can be used.