Ask Bill your personal finance question

Advice on Whether to Refinance or Draw on a HELOC

I need money to pay for kids tuition, I have good equity in my house, which is better: cash out refi or a HELOC?

I need $ for college tuition for my kids over the next 8 years. Both my wife and I work and have relatively secure jobs but can't pay tuition out of pocket. We currently have a sophomore in college and two more soon to be- one starting next year and the last starting in 4 years. We own our home and have a first mortgage of $150,000 with a 15 yr fixed rate of 5.25% (about 7 years left on it). We also have a HELOC currently at 3% with a balance of $90,000 and a limit of $250,000. Our home is valued at $700,000. We have very little other debt and a strong credit score. Question: Do we refi now and get cash out (I can lock in now on a 4.65% 30 yr fixed rate - no points) or do I simply keep my 15 yr fixed and continue to use my HELOC to pay for colleges - whose rates are low now but could rise in a couple years - plus I'll be over the $100,000 threshold to get any tax benefit from it. At the end of 8 years my 1st mortgage will be paid off but I'll probably be close to maxing out my HELOC. If you recommend the refi route, how much cash out should I take? As much as I can? If so how do I shelter that money so I can access it for tuition but also avoid (hopefully) declaring it for student financial aid reporting. Sorry for the long question(s). I need to make a decision on the refi ASAP to lock the rate so any quick help would be appreciated.

Read full question
Bill's Answer
4.0
/5.0
(6 Votes)

Bills.com | Find Learn Save
Highlights

  • Consider the costs to refinance in comparison to a HELOC.
  • If you have HELOC, drawing on it may be cheaper than a refinance.
  • Look at the long-term total interest cost of each.

The loan origination fees and other costs associated with a refinance loan, which often run several thousand dollars or more, could make a refinancing your current mortgage a costly way to pay for your children’s college education. Since you already have a home equity line of credit (HELOC) available at a very low interest rate, continuing to draw against the credit line would likely be the most cost-effective way to borrow the money you need. The average interest rate on a 30-year fixed rate mortgage is currently over 5%, compared to the 3% you are currently paying on your HELOC. Plus, because your HELOC is already an open account, drawing on the HELOC will avoid the various fees associated with new refinance loans. To read more about home equity lines, I encourage you to visit the Bills.com HELOC page.

Your concern about your HELOC interest rate increasing is certainly justified, especially since you may come close to maxing out the credit line to pay for all of your children’s education. However, with the interest rate at 3% currently, I would be surprised if the annual rate on your HELOC exceeds the rates offered on new mortgages for quite a while. Given the current state of the economy, the Federal Reserve is unlikely to increase interest rates much, if at all, any time in the near future. If the rate on your HELOC increases drastically in the future, or if you anticipate that interest rates will increase as the economy rebounds from the current recession, you should be able to refinance your current mortgage and HELOC into a new fixed rate mortgage to lock in an interest rate. I encourage you to keep a close eye on interest rate trends so that you can act promptly to refinance your loans into a fixed rate mortgage if necessary.

One more advantage of using your HELOC rather than taking a new cash-out refinance is that a line of credit will allow you to borrow only the amount of money you actually need to fund your children’s educations. Since you do not know how much money you will actually need, using your HELOC should allow you to borrow the exact amount of money you need, when you need it. A cash-out refinance, on the other hand, would force you to estimate how much money you need. If you take out too little, it may be difficult to obtain additional loans given the tight credit markets, and if you take out too much, you will be paying additional interest for no good reason. The fact that you are borrowing the funds as needed should also reduce your total finance charges and give you more flexibility in how and when you choose to draw on the credit line.

One other option to consider is allowing your children to use student loans to pay their tuition and other expenses. Because certain student loans (those that are federally subsidized) do not charge interest while the student is enrolled, it may be wise to allow your children to take out student loans while in school. You could then use the funds from your HELOC to pay off the student loans before the interest charges commence. To learn about the various types of student loans available to students and parents, I encourage you to visit the Bills.com student loan page.

I encourage you to consult with a qualified financial planner to review the various options available to your family, which will help you weigh the costs and benefits of each type of loan. I wish you the best of luck in finding an affordable way to finance your children’s college education, and hope that the information I have provided helps you Find. Learn. Save.

Best,

Bill

Bills.com