Refinancing: It is a term that is used a lot but can have many different meanings and uses.
When it comes to a home equity line of credit or HELOC, refinancing can be a particularly useful tool if you want to extend your drawing period, use new home equity or simply want to secure cheaper loan terms.
In this time of historically low interest rates and rapidly rising property values, it is important to learn more about how refinancing a HELOC could possibly help you: “The bottom line is to save money, save interest and pay [debt] in a comfortable, structured situation, ”said David Demming, president of Demming Financial, a financial planning firm in Aurora, Ohio.
This is how you qualify for refinancing your HELOC
The qualification for refinancing a HELOC is similar to the qualification for any form of loan or credit.
The first thing a lender will check is your creditworthiness. You want to make sure you have a solid score that will give a lender confidence that you will be able to pay your bills on time. (If you’re not sure what your current credit status is, you can check it with Experian or TransUnion for free.)
But that’s not the only factor a bank takes into account when refinancing a HELOC.
The lender will also take into account your loan-to-equity ratio. First, let’s define equity. Equity is the value of your home after you have withdrawn all of the loans from the home. For example, if your home is worth $ 500,000 and you have a $ 400,000 mortgage, you have $ 100,000 in equity.
Most lenders work with a maximum loan to equity ratio of 80-20, which means they are willing to lend up to 80 percent of the available equity in your home. (In the previous example of a homeowner with $ 100,000 in equity, that would mean their HELOC could be a maximum of $ 80,000.)
Finally, the lender will take your income into account. As with any other loan, a bank wants to be sure that you have enough income to be able to make your payments to HELOC on a permanent basis, even if your financial situation has changed since you first took out the credit line.
The qualified financial planner Nadine Marie Burns experienced this first hand when she tried to refinance a HELOC. “One thing that has stumbled us is income, as my husband was in a lower paid position and he was the only one [borrower] at HELOC in the past. Now they needed our income together, ”said Burns, president and CEO of A New Path Financial, a financial planning company in Ann Arbor, Michigan.
Another potential stumbling block could be if you recently retired. If so, be ready to show that you can maintain your income for at least 36 months, Demming said.
4 ways to use your HELOC. to refinance
Depending on your needs, there are several ways to refinance your HELOC. “Education and understanding your other options is critical,” said Demming. Here is a breakdown of the options with the pros and cons of each.
1. Modify your existing HELOC
Banks and lenders are sometimes willing to change an existing HELOC if you meet certain conditions, especially if you are having financial difficulties and new loan terms would allow you to catch up. One advantage of this option is that it can be the easiest and fastest way to better credit terms. However, the downside is that it may not be offered by all lenders.
2. Get a new HELOC
When you start over with a new HELOC, you can sort of reset. It could help you capitalize on new equity in your home, extend the draw period, and give you time to secure your financial position before you commit to payments.
Michelle Petrowski, a certified financial planner in Phoenix, said she recently opened a new HELOC herself and was impressed with the low rates, no closing costs, and minimal paperwork.
If your home has risen in value or you are looking for cheaper terms, now is a good time to look into refinancing your HELOC.
But be careful: a new HELOC could add to the total interest you pay over time, and it could be tempting to draw more money on the line.
3. Refinance your HELOC and mortgage together
Refinancing your mortgage alongside your HELOC can offer you better overall terms, more bargaining power and a comprehensive opportunity to restructure your payments. Especially if your HELOC has a floating rate (like most), refinancing to a new mortgage can help you set a fixed rate on any debt.
The downside is that this process can be more complicated, require more paperwork, and potentially result in higher closing costs.
4th Get a home loan to increase your HELOC. to be paid off
A less common, but still viable option is to use a home equity loan (which is a lump sum) to pay off your HELOC. This could again allow you to lock in fixed rates and payments, but keep in mind that this could also extend the payment period and increase your overall interest rates.
Alternatives to refinancing your HELOC
If none of the traditional refinancing options work for you, there are other ways to pay off your HELOC, but these may not be as beneficial.
For example, you can apply for a personal loan – which is likely to have a fixed but higher interest rate – and use that money to pay off your HELOC.
Alternatively, you can leave your HELOC unchanged but adjust other parts of your budget to free up more money to pay off your HELOC.
If you’re struggling to keep up with payments on your HELOC or just want to see if you can get a better interest rate or access to more equity, now is the time. Interest rates are still historically low and property values continue to rise – a perfect combination of conditions for an advantageous HELOC if you can qualify.
Just weigh the different refinancing routes to make sure you choose the strategy that is right for you over the long term.