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How to Refinance Your HELOC

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When the repayment period begins on your home equity line of credit (HELOC), the payments could unexpectedly stretch your budget and cascade your finances into a bad situation. If you need a more affordable monthly payment, you could refinance your HELOC. Below, we highlight several ways to do it.

1. Refinance your HELOC into a new one

A new HELOC could give you lower payments for a longer term, since you’ll have interest-only payments for several years during the new draw period. It also has lower upfront costs than other refinance options.

However, doing this is like kicking a can down the road, especially if you fall into the temptation of making interest-only payments until your draw period ends. The new loan’s variable interest rate could increase by the time the repayment period rolls around, resulting in an even higher monthly payment.

The drawbacks of HELOC refinancing options that use your home equity include:

  • Your refinance will be more expensive in the long run than paying off your HELOC now. This is because you’ll be financing your entire HELOC — interest and all — and paying new interest on the whole thing. It may still be necessary to meet monthly budget constraints, though.
  • You won’t be able to deduct the interest from your taxes. The interest is only deductible if you use HELOC funds to “buy, build or substantially improve” the home securing the loan, according to the IRS.
  • Your current HELOC lender could potentially block any new loan on your home. If they won’t modify your contract and won’t allow you to refinance, consider a personal loan.

2. Get a home equity loan to pay off your HELOC

Similar to a HELOC, a home equity loan uses the equity in your home as collateral against the loan balance. You’ll pay home equity closing costs and fees but there isn’t a draw period, so you’ll start paying off the principal and interest right away rather than letting interest build up. Home equity loans also have a fixed interest rate, giving you a set payment for the entire loan term.

3. Refinance your HELOC and mortgage together

Another option is to refinance your mortgage and HELOC into one new mortgage. The new loan could be a cash-out refinance that provides enough money to pay off the HELOC. You may end up with a new, single payment that’s smaller than your monthly HELOC payment, especially if you snag a lower fixed interest rate.

Beware, though, that if you have less than 20% home equity when you refinance, you’ll need private mortgage insurance (PMI), adding to the overall costs you’ll pay, which includes closing costs and other fees.

If you don’t know what refinance option is best, you can read here about cash-out refinance vs. HELOC vs. home equity loan.

How to qualify to refinance your HELOC

When refinancing a HELOC, you must meet a lender’s requirements to receive approval. These generally include:

  • 43% debt-to-income (DTI) ratio. Lenders need to confirm you have sufficient income to pay for a HELOC in addition to your other debts. The lower your DTI ratio, the better your chances of approval. For instance, Wells Fargo’s guidelines prefer a DTI of 35% or less, but may work with you if your DTI is between 36% and 49%.
  • 85% loan-to-value (LTV) ratio. Your LTV ratio looks at your loan amount as a percentage of your home’s value. Lenders calculate it by adding the requested HELOC amount to your current mortgage balance, then dividing that amount by the home’s market value. Lenders prefer an LTV below 80%, but your lender may allow a higher LTV.
  • Good credit history. A good credit score (620+) reflects your ability to repay your loans. Plus, the better your credit score, the lower your HELOC refinance rates are likely to be. You can check your credit score here.

When preparing your HELOC refinance application, you’ll likely need to submit the following documentation to your lender:

  • Your personal information, along with that of any co-applicant
  • Employment and income information
  • Mortgage details, including your monthly payment amount and remaining balance
  • Property information, including details on your home, property taxes and home insurance premiums
  • Information on all outstanding debts

What to consider when refinancing your HELOC

As with all loans, it’s important to shop around with and compare several lenders (generally, at least three) to determine which one is the best fit for your financial situation. Consider:

  • The monthly payment and loan term
  • The interest rate type (fixed or variable)
  • Upfront fees and the total cost
  • How stringent the requirements are

Alternatives to refinancing a HELOC

Modify your current HELOC

As an existing customer, your lender may be willing to work with you to modify your current HELOC. Explain why you want a modification and see if your lender can reduce your rate, extend your repayment term or even reduce your principal balance.

You could look into converting your variable-rate HELOC into a fixed-rate HELOC, which means you’ll have set payments that won’t fluctuate over time. This can also help you budget to pay off your HELOC.

Get a personal loan

You may qualify for a personal loan with a fixed interest rate to pay off your HELOC. Because most personal loans don’t require collateral, you won’t use your home’s equity to qualify and your HELOC lender can’t block the loan. The cons here are that personal loan rates can be some of the highest among loan types and you may not be able to borrow enough to cover your HELOC debt.

Look for an assistance program

If the above options don’t work for you, you may consider looking at assistance programs offered by the U.S. Department of Housing and Urban Development (HUD) that may help you refinance your HELOC. To find out more, you can call the Consumer Financial Protection Bureau (CFPB) at 855-411-2372 and speak with a HUD-approved housing counselor.

 

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