HELOC vs home equity loan vs cash out refinance - what do they all mean and how can you use your home equity to pay for your remodeling project?
According to a recent analysis by CoreLogic, the average homeowner gained more than $60,000 in home equity over the past year. While actual home equity values will vary widely, the overall upward trend is something homeowners should be aware of. With high interest rates and home prices to contend with, improving your existing home may be a better financial option than trying to move – and your home equity can help pay for those improvements.
So how do you use your home equity to remodel your home? A home equity line of credit (HELOC), home equity loan, and cash-out refinance are three common approaches. Here’s some information about each of them, as well as details about financing through your home improvement company, so you can consider all your options for making your remodel a reality.
What is a Home Equity Loan?
A home equity loan is a lump sum amount of money that usually carries a fixed interest rate, and you’ll repay the loan in regular installments like a traditional bank loan. The amount you can borrow will be based on the amount of equity you have in your home, your credit rating, and other factors that your bank will help you identify. Your interest rate will apply to the entire loan amount, and your repayments will begin immediately.
What is a HELOC?
HELOC stands for home equity line of credit. This method of accessing equity is similar to opening a credit card and will appear on your credit report like other revolving credit. The available credit for your HELOC is based on how much equity you have (as well as other factors), and you can draw against that amount at your convenience. Unlike a home equity loan where you interest rate and payments begin immediately, with a HELOC you’ll only accrue interest (usually at a variable rate) and begin paying when you draw against that available credit.
The life of a HELOC is separated into the draw period and the repayment period. The draw period is usually about 10 years during which you can use up to the full amount of the available credit on your account and may make only the minimum payments. When the draw period ends, so does your ability to use the credit line. At this point, you’ll enter the repayment period, which includes interest and principal payments. Many lenders recommend making more than just minimum payments during the draw period so there’s less sticker-shock when payment amounts increase during the repayment period.
“They did a complete removal and replacement of our tub and shower. Everybody we have worked with has been responsive to all our questions and the products look great! Love that it has a lifetime warranty and we were able to take advantage of financing to make the project easier to afford.”
Kara W., Ft. Mitchell, KY
What is a Cash Out Refinance?
A cash out refinance allows you to refinance your home at a higher loan amount than what you owe on your current mortgage. The difference between the mortgage amount and the new loan amount is given back to you in cash. Unlike HELOCs and home equity loans, which will require their own regular payment schedule, a cash out refinance is wrapped into your mortgage payment, so you don’t have a separate bill to pay. Having said that, cash out refinancing also uses your home as collateral, so failure to make payments puts your home at risk.
Home Equity vs Traditional Financing
HELOCs, home equity loans, and cash out refinances all have their pros and cons. A banker or financial advisor will be able to give you a good idea of which type of funding will work best for your home improvement project, and current rates for each option. But sometimes tapping into your home equity isn’t the right answer. New homeowners may not have much (if any) equity available to use, and other factors – including personal preference – may inspire you to wait on using that avenue for funding.
The good news, is traditional home improvement financing options are still available, and can usually be initiated right at the kitchen table when you’re working with your home improvement company. At Improveit, for example, we work with multiple lenders that make a variety of flexible payment options available to our customers. Whether it’s time to replace your windows or update your bathroom, we can make sure your next home improvement project fits nicely within your desired budget.