Home Refinancing Vs. Home Equity Loan


A home refinance involves getting a new mortgage to pay off an existing loan. Homeowners refinance for a variety of reasons, such as obtaining a lower interest rate or tapping equity they've built over the years. Several refinance options can accomplish your objectives and meet your financial needs. A cash out refinance achieves much the same result as a home equity loan -- both allow you to borrow against the equity in your home. However, home refinances work differently than a home equity loan.

Typical Home Refinances

There are three main types of home refinances:

  • A streamline refinance is relatively easy to get because it requires minimal credit, income qualifying and paperwork. It also may be done without an appraisal. A streamline results in a lower monthly payment but you can't cash out equity in your home.
  • A no cash out refinance -- also known as a rate and term refinance -- requires more loan qualifying than a streamline. As the name implies, you can't cash out equity with this option either. It may reduce or increase your repayment period and your interest rate. You may end up with a higher or lower payment, depending on the loan features you choose. For example, borrowers might refinance a 30-year adjustable-rate mortgage to a 15-year fixed mortgage to stabilize monthly payments and pay their home off faster, even though monthly payments may be higher.
  • A cash out refinance lets you tap into your home's equity, much like a home equity loan. You finance an amount larger than your current mortgage and the funds left over from the refinance go to you. You can use the money to pay off debt, make home improvements or simply retain for unforeseen expenses. 

Home Equity Financing Features

A home equity loan is taken out in addition to a first mortgage, usually for a smaller amount. Much like a home equity line of credit, or HELOC, it takes a secondary position to a first mortgage. Because of its subordinate position, it's considered a riskier loan than a first mortgage, and therefore has a higher interest rate. You receive the funds from a home equity loan in a single payout upon closing. It also has a fixed interest rate and may have a shorter repayment period than your first mortgage, potentially making its payment higher.

Difficulty and Processing Time About the Same

Obtaining a home equity loan takes the same amount of work and follows a process similar to that of a cash out home refinance. Both transactions typically take 4 to 6 weeks to close -- depending on the lender and the complexity of the file. You also incur the same closing costs for a home equity loan as a cash out refinance -- usually between 2 percent and 5 percent of the amount financed. The equity requirement, or loan-to-value requirement, for both a cash out refinance and a home equity loan also are difficult to meet. Lenders usually allow you to finance no more than 85 percent of your home's value in either transaction.

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