Cashout Refi vs Home Equity Loan

20 Replies

Hello BP,

I am a beginner investor and I need advice on getting money out of my investment property. 

I am fortunate that my father gifted me a single family house that I currently rent out. This house is currently worth around $150,000. I wish to take out a $100,000 loan against this property and use that money as a down payment for three other houses. 

Now I spoke to a lender and he said he is willing to do a Cash-out Refinance for a fixed rate of 4.5 % for 30 years. However, I have had other people including my father and other bankers tell me that a Home Equity Loan would be better? I was wondering if someone could tell me the big difference the two and what would actually be more beneficial for me. Is it true that with a cash-out refinance that the rate stays locked for full term, while a home equity loan does not? And l I plan to hold on to these properties for at least 10 years or longer, seeing how I am only 23. Also besides a change in rate, would anything change if I decided to live in the house? Thanks in advance.

Assuming you qualify, take the cash out refi. The HELOC has two problems for people thinking long term: (1) the rate is variable and (2) the bank can close the LOC so you can't borrow any more at any point they decide to.
Assuming you qualify, take the cash out refi. The HELOC has two problems for people thinking long term: (1) the rate is variable and (2) the bank can close the LOC so you can't borrow any more at any point they choose. The only advantages (all only beneficial in the short term) I can think of is that the HELOC will be cheaper to originate, will temporarily have lower interest rate (assuming rates rise by >0.5% or so), and you don't have to deal with re-investing the loan proceeds while you're waiting to find a permanent investment.

All things equal, Justin explained it well. Especially since your plan is a long term focus - lock in the long term cheap money. Take the cash out refi if you qualify. I would be curious about the "other people" who were steering you towards the HELOC, and ask them their reasons. Even though the rates are beginning to tick up, you should ask a couple of local lenders, "Assuming I qualify, what are your current rates on cash-out refis for investment properties." I just closed a cash out refi on an investment home last week with better terms... G luck!

The other people who told me to get a Home Equity Loan said it was better because it has less fees and tends to be a better rate. But none of them told me that it was a variable rate. Which is a big problem since I'm holding the properties for a long time, so the rate is bound to increase. 

I just wanted to get someone's opinion here on BP, so thanks guys. I will be going through with the cash-out refi then =D

Let's be clear that @Gabriel Garces is talking about a Home Equity LOAN not a line of credit. You can usually get a home equity LOAN at a fixed rate from my understanding. There's also a big difference in eligibility from what I understand. You are only qualified for a Home Equity Loan or LOC if the property is your primary residence (from what I understand). Therefore, you're actually only eligible for the cash-out refi. This is because banks view an investment property differently than a primary residence. Someone is less likely to miss a payment on their primary residence when compared to an investment property.

I'm sure someone else will chime in if I'm wrong...

If your plan is to get loans on the rentals you purchase, then the HELOC would most likely be better than a fixed loan. Plus, if you pay down a HELOC, there is no payment, so you only pay on what you have out at the time. The rate is variable, but the rates on HELOCs are based on the prime rate, which is currently 3.25%, so your rate may be under 4%, possibly. You may also be able to find a no-cost HELOC rather than paying $3k plus in fees on the refinance. I would keep thinking this through, based on your needs and plans.

Well It depends if you mean a HELOC or a HE Loan. HELOC's are generally variable, no closing costs. HE Loan's are Fixed but for shorter terms than a traditional 30 yr. (10-20yrs), higher rates than a HELOC (4.75-5.75), and no closing costs. Both products usually have a LTV of about 80%.

In regards to what Stephen wrote HELOC's and HE Loan's are available for rental properties but at higher rates.

As with everything I would play with the number's to see what makes the most sense.  As far as underwriting goes if you have been renting the property for awhile they should count about 75% of the rent as income.  If you need any information feel free to contact me I'm a regional at a CU so my answer's are more from CU point of view.

My lender wants to do a cash-out refi for 100k for my home. Let's say I do live in the house. It is fully paid off.

I'm reading these post and talking to different people and majority are getting mixed up. I want to compare a cash-out refinance to a HOME EQUITY LOAN (not a Home Equity Line of Credit). I am going to be holding these properties for a while. 

From those who say to go with a Home Equity Loan, they say it is cheaper to get and the rate may be better. But I want to confirm that the rate is fixed, not variable.
My lender is saying that it is variable, so he's pushing me to do fixed cash-out refinance. So now I want to know if he's right or if he's pulling a fast one on me.

Gabriel, home equity loans CAN be fixed or variable depending on your lender. If your lender is not offering a fixed and that's what you want you can shop around. I've never tried it but check out Lending Tree maybe?

BTW, this is Lending Tree's definition of a Home Equity LOAN "Home equity loans allow homeowners to access their equity in a lump sum of cash, which may be used for a variety of purposes, and is repaid in monthly installments. Home equity loans usually have fixed interest rates and are fully amortized while a home equity line of credit (HELOC) provides a line of credit that allows you to draw funds up to your maximum credit line."

@Gabriel Garces

We can't tell you which is better until we know the terms that your bank is offering. HELs can be fixed or variable, and can have payback terms of 10, 20, 30 years, etc. HELOCs are typically variable, but don't have to be and have a variety of payback terms. A standard mortgage (or cash out refinance) is typically fixed, but again does not have to be. What are the terms you are being offered? Give us stats for both deals and we can help you evaluate. Each product you are being offered is different and the general terms of HEL, HELOC, Refinance, etc. don't really mean much until you see the lenders' terms.

@Justin R. is right. Unless you think interest rates are not going to go up, go for the 30 year fixed mortgage. HELOC's are adjustable and can sky rocket in the 10 years you plan to keep it. That's how so many people lost their homes when they used HELOC as purchase money seconds. Ask your father why he would recommend a HELOC but I think he's giving you terrible advice.

Hi Gabriel,

I had the exact same start to my investing! My parents gifted me a house and I pulled cash out of it. I went with a cash out refinance. I don't think anything beats a fully amortizing, 30 year fixed rate loan at the current rates. I just turned 24 and currently closing on house number 5. I'm not sure what your real estate background is but if you have any questions or need some tips feel free to message me. Getting the financing to invest the cash out quickly was not as easy as I had hoped.

Hello Everyone, 

First off I want to thank everyone who posted on this forum. But now, after a week of speaking to different lenders, hearing different people in person and on BP,, and Brandon Turner, I will post everything I have learned.

The next matter of business to clarify that there is difference between a Home Equity LOAN and a Home Equity Line of Credit. It seems people like to use the two terms interchangeably. However, one is a lump sum loan and the other is.....a line of credit. It seems everyone knows what a line of credit is and its terms. So I am not going to talk more about it, as I am not trying to get a line of credit. Instead, I want to borrow a large amount of money, using the equity or value of my house. 

So now this brings us to the actual question: Cash-out Refinance or Home Equity Loan. To better understand the difference between the two, let's pretend I have a $50k mortgage on my $150k house. So now I want to take out $50k from the equity left in my house. 

The first option is the cash-out refinance which will readjust the terms, rate, or length of my existing mortgage and give me the extra 50k in my pocket. My new mortgage is now 100k.

The 2nd option is the home equity loan. I want to say this is simply a 2nd mortgage (maybe that's why people equate the term "home equity loan" with a HELOC). So with this home equity loan or 2nd mortgage I keep my original mortgage and add a 2nd one for 50k. Now I am paying two different mortgages and I got the extra 50k in my pocket.

A Cash-out Refi has more origination fees and is more of a hassle due to it taking longer and always needing an appraisal. But this is a tradition fixed rate loan that can last for 30 years. 

A home equity loan is cheaper to close and faster to get, but they have a shorter term. I'm not sure if the rate is cheaper, but the fact that the term is shorter, means the monthly payments are more likely greater than a refinance. 

So since I don't have an original mortgage, a cash-refinance and home equity loan accomplish the same thing. However, I am looking for the cheapest monthly payments possible. Thus, the cash-refi will save me more money each month, despite its expensive closing costs (which is coming out of the loan and not my pocket).

So there you go guys I am going to do a cash-out refi to use as a down payment on other properties, without using any cash in my pocket. Hopes this helps other investors and thank you BP.

BONUS: For those with a mortgage and you are towards the end of you term, it is generally better to get a home equity loan or 2nd mortgage. This is because your original mortgage payments are now paying back mostly principle, thus you would not want to restructure it. Overall it still comes down to what saves you the most money and your goals.

I know this thread started 2 mos ago, so I'm hoping I can restart it because I too refi'd our home to cash out and pay cash for our first investment property.  So now that rental property is paid off.  So I want to start a new I know I don't want to cash out again only because I don't want the loan on my personal residence to get too high.   So should I do HE Loan on the paid off rental property to pay cash for my next deal or would it make better send to just mortgage the next deal.  We have excellent credit.  Thoughts?

@Megan Aldridge  If you have the cash then that's the best option. Between doing a cash out on the paid off rental, vs mortgage on the new, I would recommend getting a mortgage on the new deal. You will be able to get a higher LTV and lower rate on the purchase vs a cash-out refi.

Upen Patel, Mortgage Banker

Federal NMLS# 1374243

Sorry about resurrecting this old thread, but wanted to comment on how incredibly helpful this thread and @Gabriel Garces experience has been to the current property I am trying to refinance after paying all cash. Being a buy and hold investor, and after reading this article, I am going to definitely go with a cash out refi instead of a home equity loan in order to get the lowest payment possible, for as long as possible.

As a side note, I just found a fantastic mortgage loan officer with GEM Mortgage Alan World who is an investor himself, and knows all the ins and outs of cash out refi versus home equity loans in my state. Always nice to have a mortgage guy with the mindset of an investor to bounce ideas off of. 

Thanks again for the great post on this topic!

I'm replying late, too, but I've made this decision a lot of times, so I wanted to share. In almost every circumstance, I have opted for something other than a cash-out refi for one major reason, one minor reason: 

Major: I have always wanted to keep my payment on my primary residence low. If things went pear-shaped with any of my properties, or with employment, or any cash flow issue, I always want my mortgage on my primary residence to be manageable. The difference in interest rates between a refi and some sort or second mortgage is usually small enough for the peace of mind I gain.

Minor: While I'm quite happy with debt, and have used it liberally, I also like feeling the accomplishment of paying things down. That's why I am in love with HELOCs. I can watch the balance drop as I put more money in, but that money is immediately available should another opportunity come up.

The only time I did a cash-out refinance on my home for a rental property was when rates had dropped significantly lower than the rates I had on both my home and my rental, and I wanted to refinance both. I had already owned the rental for 5 years so knew the rental market well, which definitely lowers risk (as per my Major reason, above). However, I needed to bring some cash to the table for the rental in order to capture that lower mortgage rate. I also knew I was going to keep both for 5+ years. Again, as a lot of PPs have said, run the numbers. 

@Megan Aldridge, or any others in this situation. Think about what Megan says here:

I too refi'd our home to cash out and pay cash for our first investment property. So now that rental property is paid off. So I want to start a new I know I don't want to cash out again only because I don't want the loan on my personal residence to get too high.

The thing that worries me about this is that Megan considers her rental "paid off" but what about the cash she took out of her home to buy the property? Again, I'm a big fan of leaving the 1st mortgage on my home entirely alone, and paying that down, and then using secondary means (HEL or HELOC) to buy investments, because then you can "see" the true cost of the investment. Only once BOTH the 1st mortgage on the rental AND the HEL or HELOC are paid off is the investment property truly paid off.

Another thing I like about doing my mortgages in "pieces" like this is that it allows me to diversify my holdings with different Debt-to-Equity ratios. Again, I love debt (I bought 5 properties entirely leveraged off of only my primary residence) but I also like healthy margins!