Home Equity Loan vs. Cash-Out Refinance: Which Option Actually Costs Less?

You have equity. You have a number in mind—maybe $50,000 for a kitchen renovation, maybe more to pay down high-interest debt. You’ve looked at two options: a cash-out refinance or a home equity loan.

One of these products replaces your entire existing mortgage. The other sits behind your first mortgage—a separate loan, a separate payment. That basic difference could mean extra costs most borrowers don’t see until they’re comparing loan estimates side by side.

Where you land depends on three things: how much cash you need relative to your total loan balance, what rate you’re already locked into, and how long you plan to stay. The answers point in different directions for different people.

How a home equity loan and cash-out refinance actually work

A home equity loan is a type of mortgage loan, typically a second mortgage. It sits behind your first mortgage (the loan you used to buy the home), meaning the first mortgage lender gets paid first if you default. 

With a home equity loan, you receive a lump sum at closing. Then, you make fixed monthly payments for the full term of the loan. Your original mortgage stays completely untouched: two separate loans, two monthly payments.

When you add a home equity loan to an existing mortgage, lenders look at your combined loan-to-value ratio, or CLTV. This is the total of all loans on the property divided by your home’s value. Depending on the lender, you may be able to borrow against a higher percentage of your property value with a home equity loan than with a cash-out refinance. If a cash-out refinance doesn’t give you access to enough equity, a home equity loan is worth exploring.

A cash-out refinance replaces your entire mortgage with a new, larger loan. The difference between your old balance and the new loan amount comes to you in cash at closing. One loan, one payment. A new rate, a new term, and a new cost structure applied to everything you owe.

What the two loans have in common is that both products use your home as collateral. Failure to repay either type of loan could result in foreclosure.

Both also require you to keep equity in the home after borrowing. For a conventional cash-out refinance on a primary residence, the maximum loan-to-value ratio—your loan balance as a percentage of home value—is typically 80%. FHA cash-out refinances allow up to 80% LTV as well. VA-backed cash-out refinances may allow up to 100% of the home’s appraised value for eligible veterans and servicemembers. Limits vary by lender and loan program.

The mechanics are simple. The costs are where it gets complicated.

Home equity loan vs. cash-out refinance comparison

Rates, costs, and the math to decide which is cheaper

How the interest rates compare

Cash-out refinance rates are first-lien rates. Home equity loan rates are second-lien rates. The second lender takes on more risk because they’re paid after the first mortgage holder if you default, and that risk gets priced into the rate. Cash-out refi rates are typically lower as a result.

Here’s the part that catches people: A cash-out refinance replaces your existing mortgage rate on your entire balance with whatever rate you qualify for today. If your current rate is well below today’s market rates, that replacement could cost you significantly more over time, even if the quoted refi rate looks competitive today. 

How closing costs and surcharges compare—and what most people miss

Cash-out refinance closing costs are generally higher than home equity loan closing costs because the fees apply to the entire loan balance. Home equity loan costs are usually much smaller than a cash-out refi, so the fees will be smaller, too. 

Cash-out refi closing costs often run in the range of 2% to 6% of the new loan amount, applied to the full new balance. Confirm with the lender what your actual closing costs could be.

Here’s what many people miss.

Conventional cash-out refinances typically come with surcharges (fees based on your credit score and loan-to-value ratio). These are often priced into your interest rate rather than listed as a separate closing cost, which makes them easy to overlook when comparing quotes. Government-backed loans have their own cost structures: FHA loans carry mortgage insurance premiums, and VA loans include a funding fee. The specifics vary by program and borrower profile.

The key detail, regardless of loan type: any surcharges, rate increases, mortgage insurance premiums or fees are calculated on your full new loan balance—not on the cash-out portion alone.

Ask your lender specifically how surcharges and fees affect your rate and total cost before committing. This matters most when you’re pulling a relatively small amount of cash from a large existing mortgage.

Illustrative example: If you’re refinancing a $350,000 mortgage to pull out $50,000, any surcharge applies to the full $400,000 new loan—not just the $50,000 you’re borrowing. So, if  a 2% surcharge, or $8,000, was added to your loan, that’s a pretty high price to pay to borrow $50,000. The smaller your cash-out relative to your total balance, the worse that math tends to get.

Comparing costs between home equity loan and cash out refinance

• Existing mortgage: $350,000 at 4% 
• Cash needed: $50,000 
• Credit score: 740 (affects surcharge calculation on conventional cash-out refi)

The break-even question—and why it’s more complicated than it looks

You may have seen the advice to divide your closing costs by your monthly payment savings to figure out how long before a refinance “pays off.” The concept is real. If you spend money upfront to lower your rate, there should be a point in time where the savings offset what you spent.

But a lower payment doesn’t always mean you’re saving money or paying less interest. It can mean you’ve simply extended your repayment period. And a higher payment could mean you’re shortening the term and paying less interest overall, even if it doesn’t feel like a savings. With cash-out in the mix, even a simple formula stops working.

The real question is: What is the total cost of each option over the time you plan to stay in the home? That calculation is worth doing carefully with a lender or financial advisor, not a quick formula.

When a home equity loan makes more sense

A home equity loan could be the better fit if:

• Your existing mortgage rate is meaningfully below current market rates. A cash-out refi replaces your entire mortgage at today’s rate, and closing costs can be high. Keeping your original rate intact with a home equity loan could save you considerably more even though home equity loan rates are generally higher.
• You want a relatively small amount of cash compared to your total loan balance. Because surcharges on a conventional cash-out refi apply to the full new balance, the math rarely favors a cash-out refinance in this scenario.
• You don’t want to restart your mortgage repayment clock. A cash-out refi on a loan you’ve been paying down for years could extend the life of your debt and mean paying interest on a larger balance for longer.
• Keeping upfront costs low is a priority. In some cases, a home equity loan may also close faster than a full mortgage refinance.

When a cash-out refinance makes more sense

A cash-out refinance could make more sense if:

• Your existing mortgage rate is above current market rates. In that case, a cash-out refi could lower the rate on your full balance while providing cash. Confirm with a lender.
• You want one monthly payment instead of two. A cash-out refi consolidates your mortgage and your borrowing needs into a single loan.
• You need a large amount of cash relative to your loan balance. When the cash-out portion is large relative to the full new balance, the surcharge math begins to shift and the first-lien rate structure starts to work in your favor.
• You want to change your loan term at the same time, from 30 years to 15 years, for example, and you’re prepared for the payment change that comes with it.

Eligible veterans and servicemembers may have additional options through VA-backed programs. FHA cash-out refinances are available for FHA-insured borrowers. See those program pages for details on limits and eligibility.

When a HELOC might be better than both

A home equity line of credit (HELOC) works differently from either option. It’s a revolving line of credit—you draw what you need during a set draw period, repay, and borrow again. During the draw period, borrowers could have the option to make interest-only payments. When that period ends, full repayment begins.

HELOC rates are typically variable, tied to the prime rate. When interest rates are falling, that could reduce your costs over time; when they’re rising, payments can increase. Closing costs are typically lower than a cash-out refi, though some lenders charge annual fees or early closure fees—read the terms before signing.

If you’re not sure how much you’ll need, or you want to borrow in stages, a HELOC is worth comparing alongside both options.

Bills Action Plan

Step 1: Calculate your new LTV. Add the amount of cash you want to your existing mortgage balance. Then divide the result by your home’s current value. For example: $200,000 mortgage balance plus $50,000 cash needed equals $250,000. If you divide by a $300,000 home value, you get an LTV of 83%. Most conventional lenders cap cash-out refinances at 80%, so you’d need either more equity or less cash to proceed.

Step 2: Compare your current mortgage rate to today’s cash-out refi rates by contacting at least one lender. If your rate is meaningfully lower than current market rates, run the home equity loan numbers first before committing to a refi.

Step 3: Consider the costs. Ask any lender you’re considering for a complete written cost breakdown: closing costs, any applicable surcharges, and the total cost over your expected time in the home. Don’t compare monthly payments alone.

Key Terms

LTV (Loan-to-Value Ratio): Your loan balance divided by your home’s current value. For conventional cash-out refinances, most lenders cap LTV at 80% for a primary residence. FHA cash-out refinances also typically cap at 80%. VA-backed cash-out refinances may allow up to 100% of appraised value for eligible borrowers. Limits vary by lender and program.

CLTV (Combined Loan-to-Value): The total of all loans on a property divided by its value. Relevant when you have an existing first mortgage and are adding a home equity loan. Depending on the lender, CLTV limits on home equity loans may allow you to borrow against more of your property value than a cash-out refinance would allow.

Second mortgage: A loan secured by your home equity that sits behind your primary mortgage. Home equity loans are second mortgages. The second lender is paid after the first mortgage holder in a default.

Break-even point: The point at which accumulated interest savings offset the upfront cost of refinancing. In practice, the calculation is complex when cash-out, term changes, or rate increases on an existing balance are involved. Work through this with a lender or financial advisor before deciding.