Home Mortgage Refinancing Options: Cash Out Refinancing Versus Home Equity Loans

The Disadvantages to Cash Out Home Mortgage Refinancing

Because cash-out refinancing carries certain disadvantages and risks, many people choose the home equity loan instead. Both have pros and cons, and what you choose will depend on your situation, income, and how long you have been in the home, among other things.

The Second Mortgage

Also called the second mortgage, the home equity loan is a sum of money you borrow against the principal you have already paid in your home loan. As with the original mortgage, the interest is tax deductible, as are any points you may pay.

Problems with Home Equity Loans

There are cautions regarding the home equity loan. From unscrupulous lenders to home contractors, there are people who can rob you blind by selling you home improvements, vacations, etc. Search the website www.ftc.gov for the dangers and pitfalls of home equity loans before you even apply. The article “Home Equity Loans: Borrowers Beware!” will help you tell which salespeople are rip-off artists and how to avoid the scams.

Advantages of Home Equity Loans

The home equity loan does have some advantages when compared to the cash-out refinancing. The cash out refinancing option is where you create an entirely new loan and end up with money at the closing. This comes with certain costs, so make sure this refinancing option will be of benefit to you before you apply.

Home Mortgage Refinancing and Your Interest Rate

The new loan may be a lower interest rate than your original loan, but because you are getting cash back, the payments may be higher. Realize that unless you are going for a 15-year loan term this may be a disadvantage for you. Remember that when you refinance, your initial payments are almost all interest again, much like the original loan. Your tax deductions won’t cover the difference.

Fees and Home Mortgage Refinancing

If you don’t apply for a low cost or no cost, count on paying the usual fees. You will probably see a charge for the application, loan origination, surveys, appraisals, title insurance, title search, and more. Make sure these fees won’t put a big dent in the cash you will get at the closing. If so, shop for a low cost or no cost loan or ask your loan representative to waive some fees—often if you ask the lender for your first mortgage to supply your refinancing, she may bring costs down for you.

Summary and Conclusion

In the end, always look at the total interest you will pay over the life of your loan to decide whether or not to refinance and which loan product is best for you. Also check with tax specialists or an attorney to see how it will affect your tax obligations.