- 6 min read
- Once a HELOC enters its repayment phase, your payment can increase significantly.
- Refinancing a HELOC can fix your interest rate, lower your costs, or give you more time to repay.
- HELOC refinance loans include a new HELOC, a home equity loan, and a cash-out refinance.
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If you have a home equity line of credit (HELOC) that you have used to tap into your home’s equity, you already know that it’s a valuable form of quick financing. But most HELOCs come with variable interest rates. If you are currently paying a high rate on your HELOC, you might want to consider a HELOC refinance.
Take the time to explore how a HELOC refinance works, the reasons for considering it, the pluses and minuses of this decision, the lenders that offer it, the closing costs involved, and how a HELOC refi differs from a refinance on a home equity loan/second mortgage.
Why Should You Consider Refinancing a HELOC?
With a HELOC, you usually only pay interest on what you’ve borrowed until your draw period ends, which often happens after five years. (Draw periods are normally the first third of the entire term – five years for a 15-year HELOC and 10 years for a 30-year HELOC). That’s when the repayment period begins and you can no longer borrow funds from your line of credit.
You must make full principal and interest payments monthly during the repayment period. However, these monthly bills can be a lot more expensive than the minimum interest-only draw period payments. Especially if interest rates have gone up since then.
If you want lower payments, consider refinancing your HELOC. This could lower your monthly payments by offering more time to repay what you owe. You could also choose to take a larger HELOC if you want to borrow additional money.
Pros and Cons of Refinancing a HELOC
Refinancing a HELOC can make the most sense in one of two scenarios.
Leonard Ang, CEO of iPropertyManagement, explains. “In many cases, people who take out HELOCs will only pay the interest until the draw period ends – at which point they’ll be facing much higher payments and interest rates. This can make refinancing a financial necessity.”
The additional time you get to repay your balance can help you afford the monthly payment.
Another benefit of refinancing your HELOC? It can increase your line of credit, enabling you to borrow more funds needed for things like home improvements, college tuition, or purchasing a second home or investment property, according to Deb Gontko Klein, branch manager for residential mortgage company Reliability in Lending-PRMI Chandler.
“You can access more equity and cash, potentially get a lower interest rate, and hopefully secure better overall loan terms,” she adds.
Among the disadvantages of a HELOC refi is reduced equity in your home, especially if you’re planning to sell your property soon.
“You’ll also have to pay some closing costs for any kind of refinancing option, and you will likely have to go through quite a bit of paperwork,” Ang cautions.
And if you choose to extend the repayment term of your HELOC, “you’ll end up paying much more interest throughout the loan,” says Dennis Shirshikov, a strategist for Awning.com and a professor of economics and finance at City University of New York.
6 Ways to Refinance Your HELOC
There are several strategies to pursue if you want to refinance your HELOC.
Option #1: Take out a new HELOC
By opening a new HELOC, you can get additional years to repay your balance. Instead of the ten years remaining on a 15-year loan, you can take the entire 15 years of a new loan. Or lower the payment even more with a 30-year term.
“By getting a whole new HELOC and using it to pay off your first HELOC, you can get more money to work with for other projects and benefit from lower interest-only payments over the first 10 years,” says Ang.
But with this strategy, you may end up paying more interest in the long run, and the interest rate you may be charged could be higher than your current rate.
Option #2: Get a home equity loan to pay off your HELOC
Here, you take out a new home equity loan and use the funds to pay off your HELOC. This can provide up to a 30-year cushion during which you can repay what you owe versus the 20-year repayment schedule a HELOC requires. Plus, a home equity loan (second mortgage) comes with a fixed interest rate, offering peace of mind in knowing exactly what you’ll pay each month. Remember that with a HELOC, your interest rate can vary unless you have a fixed-rate HELOC.
On the plus side, a 30-year repayment period will likely equate to more affordable monthly payments. But you may pay a higher interest rate with a home equity loan, and you will probably pay more interest over those 30 years.
Option #3: Refi your first mortgage and HELOC into a single new loan
Alternatively, you could refinance your HELOC and primary first mortgage into a solitary new loan. The advantage here is that you will likely earn a lower interest rate than what you would pay for a home equity loan or a HELOC. As with option #2, you’ll also enjoy the predictability of a fixed interest rate and consistent monthly payment amounts.
“This strategy makes sense when interest rates are low since you’ll be able to lock in a low rate. But it also comes with the most paperwork and the highest closing costs,” says Ang.
Consider that refinance closing costs can equate to 2% to 5% of your amount borrowed. That’s a big chunk of change.
Option #4: Convert your variable-rate HELOC to a fixed-rate HELOC
If your lender allows it, you may be able to convert some or all of your HELOC balance to a fixed rate with a particular term. But this can only be done during the draw period or when you initially close on your HELOC. If you have already entered into the repayment period, converting to a fixed rate isn’t an option.
Option #5: Pay off your HELOC with a personal loan
Instead of any of the previous strategies, you could take out a personal loan and use the funds to pay off your HELOC balance owed completely. The good news about a personal loan is that it doesn’t require using your home as collateral and the interest rate may be lower than expected if you have excellent credit.
But a personal loan’s term may be much shorter, which means your monthly payments could be higher even though you are paying less interest over the term.
Option #6: Pursue loan modification
It’s possible you may not be eligible to refinance your HELOC. In this case, consider loan modification, especially if your income is insufficient to afford monthly payments on a new loan, you are underwater on your mortgage, and your credit score has slipped beneath 620.
Be aware, however, that your lender isn’t obligated to provide a loan modification. If they allow it, you may be required to prove that you can make modified payments over a three-month trial period before your loan is officially modified.
“Check with your lender. Many offer non-refinance adjustment programs on their loans that can set you up with a lower interest rate or an easier payment schedule,” suggests Ang.
How to Qualify to Refinance Your HELOC
To be eligible for a HELOC refi, you must maintain a favorable debt-to-income ratio and a sufficient amount of equity in your home.
“In most cases, you need to keep at least 20% equity in your home between your HELOC and your mortgage,” explains Ang.
Depending on your lender, your debt-to-income ratio must not exceed 50% to 43% in many cases.
“You also need at least a 680 credit score,” adds Shirshikov.
Demonstrating strong job stability is essential as well.
“When refinancing a HELOC, you can either go back to the lender who currently holds your note or go to another bank or lender and see if they can offer you better terms. These banks look at the value of your property, your income, and the stability of your employment to ensure you qualify and adhere to specific guidelines for these types of loans,” Gontko Klein continues.
Is refinancing a HELOC similar to refinancing a mortgage loan or home equity loan?
Yes. You’ll need to close on a HELOC refinance, as you would with a primary mortgage loan or home equity loan, and you will pay closing costs on any of these options. As with a home equity loan or mortgage loan, you’ll also need to qualify for a HELOC refinance by demonstrating job security, sufficient earnings, good credit, and positive financial history.
Can you combine a HELOC and mortgage loan in one refinance?
Yes. You can refinance your primary first mortgage and HELOC into a single new loan and make only one monthly payment. You may earn a lower interest rate than you would pay for a home equity loan or a HELOC. Plus, you’ll benefit from a fixed interest rate and set monthly payment amounts. But you’ll pay 2% to 5% in closing costs and repay what you owe over a longer term.
What is a good reason to refinance a HELOC?
If you’ve entered the repayment period of your HELOC, your monthly payments will become more expensive because you are required to begin making fully amortized principal and interest payments. This can be a good time to consider a HELOC refinance, which can lower your monthly payments and/or give you extra time to repay what you owe. Or perhaps you want to borrow more money once your draw period expires, which is possible when you refinance.