HELOC or Cash-Out Refi? | Which option is right for YOU?

HELOC or cash out refinance? Which one is right for you? Hey, what's going on everybody? It's Jeff Travarthan, Jeff the mortgage pro. Thanks so much for watching. Let's jump right in today. Let's talk about doing a HELOC loan or a cash out loan, which is the better option for you. And at the end of the day, what I'm going to always tell you is that like, let's run the numbers and figure out which is the right scenario for you. Let's go through the HELOC pros and cons first, and then we'll go through the cash out refinance pros and cons. So HELOC pros to start with. HELOCs have flexibility with them. And what I mean by that is that when you have a home equity line of credit, typically you can have what's called a draw period in the beginning. And that means you can move money on and off the line of credit. If you have no balance on the line of credit, then typically you have a $0 monthly payment on that home equity line of credit. But if you have a $100,000 limit and you only draw 50, you're only going to pay the interest on that $50,000, not the whole line amount that you have. So flexibility is key when you're looking at HELOCs. Typically HELOCs have lower initial costs than cash out refinances do. The fees are very minimal in the sense that there's not a lot of them when you're actually getting HELOC. So that's definitely a pro I would say when you're getting one. HELOCs have interest only payments for the draw period. Draw periods can last anywhere from three to 10 years that I've seen. Most commonly is probably the 10-year draw period. And during that whole time where you can move money on and off the line of credit, you're actually able to make an interest only payment. So if you're short one month, you can just make that interest only payment. And then if you have more money in another month, you can pay down on that balance if you really want to. So that's a benefit for you to have the lowest payment possible with an interest only payment. And then the last pro that I would say is that it has revolving credit. These act like credit cards. You can move money on and off the line, allowing you to borrow, repay, and borrow again during the draw period. So let's say you use some money and then you pay it back down, but then you need the money again, you can pull that money back off. So the flexibility and the revolving credit that you have available for you are definitely benefits of a HELOC. Let's look at some of the cons of doing a HELOC though. They have typically variable interest rates. You're subject to the federal funds rate. And that's the rate that the banks lend to each other. Whenever you hear the news and you hear the Federal Reserve is going to be raising the interest rates or lowering the interest rates, those are directly tied to credit cards and HELOCs. So if you hear that the rates are going up, your HELOC rate is going to go up based on that, however much they change the rate. So on the other side though, it could be a pro if they're going to be lowering the federal funds rate. That means that your monthly payment on your HELOC is going to go down because the rate on that is going to go down as well. So I'm going to consider that a con because it has variable rates. So sometimes it may be a good environment. Sometimes it's not a good environment to have the variable interest rate. You have a risk of default. If you're unable to make your payments during the payment period, there is a risk of foreclosure. Although it's somewhat minimal because it's a second lien on a property, but it's still a possibility going forward. So always watch out for the risk of default on these HELOCs. And then they also have shorter draw periods. It's not going to be a 30 year draw. You can't have that for 30 years and then have to repay it back. It's typically a maximum of 10 years after which you enter the repayment period where you can no longer borrow against it. It becomes like a fully amortized mortgage where you have to make the same payment or more every single month. And that includes principal interest when you have to repay it. So if you get to the point where you have to get to that point, it might be either A, a good idea to refinance it and start the HELOC over or possibly pay it off and then not have a HELOC. Okay. So those are some of the pros and cons of HELOCs. Let's look at the other side of the coin here and let's look at the cash out pros for a cash out refinance. The first is that you typically are going to have a fixed interest rate when you're doing a cash out refinance. And that kind of speaks for itself. You're going to have, and you're going to know what your same monthly payment is every single change. You have lump sum access to the money. So like, let's say you do a cash out refinance and you take out a hundred thousand dollars, you're going to get all that money when you close escrow. So you can use it as you see fit going forward. You have an extended repayment period. So when you borrow against your mortgage and you do a new mortgage, like a cash out refinance would do, whatever that new balance is, you have the entire life of the loan to be able to pay it off. You're going to be making your fixed monthly payments every single month, and you'll typically have 30 years to pay off that loan. So there's no interest only period, or no accelerated payment like you would have on a HELOC. And then lastly, for the cash out pro, you could have a potential tax deduction. So in some cases, the interest paid on your mortgage may be tax deductible. And just full disclosure, I'm not a tax advisor. So I'm not really allowed to advise you on that, speak with a qualified professional to be able to give you more of an idea, but a potential tax deduction is definitely in the cards with a cash out refinance. Let's look at some of the cons of a cash out refinance. The first one is probably a little bit higher closing costs. HELOCs are pretty cheap to do, maybe a couple hundred dollars in terms of fees, not a lot of escrow to be able to pay for in that instance, but a cash out refinance is just like a regular mortgage. So closing costs are definitely going to be a little bit higher when you're doing a cash out refinance loan. The new loan terms, refinancing often means like resetting the clock on your mortgage and whatever the market interest rate is of the day. So if you were back in 2020 or 2021 and you got a 2.5% interest rate, good for you. But if you have to take cash out and do a cash out refinance, you're going to be subject to the interest rate of whatever the market is telling you it is right now. So you could lose that low payment going forward. So new loan terms are definitely a con of a cash out refinance. You also have, just like the HELOCs, you have a risk of foreclosure. In this instance, when you're doing a cash out refinance, you're going to have a first mortgage balance. So first mortgages are probably going to be a greater risk of foreclosure should you default on that payment because second liens do not have priority. First liens have priority on a property. So definitely a risk of foreclosure with cash out refinances. And there's a lot less flexibility. That would be the last con that I have, meaning that once you've refinanced, you can't access additional funds going forward. You're stuck with whatever you took out. So make sure that if you're going to do a cash out refinance, you take out enough money for what you need to do and what you want to do for those. So if you're deciding between a HELOC and a cash out refinance, let's run the numbers for you. Let's figure out which one makes the most sense. I've seen instances where the HELOCs make the most sense. And I've also seen instances where doing a cash out refinance makes the most sense if you qualify for both of them. Do me a favor, click on my calendar link down below. Let's schedule a time to talk about that and see if we can get you a nice analysis to determine what's the best option for you. Thanks so much for watching. I'll see you on the next show. Have a great day, guys. Bye.