This is a nice house in San Gabriel, California. It doesn’t look like much on the outside, but the inside has a remodeled kitchen, over 1400sf of living space, 3 bedrooms, 2 baths.
This is a fairly average home in the Los Angeles suburb of San Gabriel. This house is on the market with a price tag of $570,000.
The median price paid for a Southern California home is about $465,000 in June, 2005.
Should I take cash out by refinancing my first mortgage, or just take cash out with a HELOC?
I am asked this question frequently. There are many factors to consider. The answer depends on how much cash you want to take out, what the current interest rate is on your first mortgage, and what the fees are if you refinance. Simple calculations comparing the costs and savings can show you in black and white which is cost effective.
However, there are two more factors that are subjective.
A HELOC has an adjustable rate usually tied to the prime rate. You may be the type of person who do not want to risk higher payments if the interest rate should go up. I have many clients like that. They want the security of a fixed rate so they know exactly what their payments will be for the next 30 years. They do not want to take a risk. In this case, a HELOC is not for you. Refinance and get a fixed rate, or take out a home equity fixed rate second.
The other factor to consider is whether you think you can pay off the HELOC in a short amount of time. For example, let’s say you are expecting a sum of money, such as a bonus, or a raise. But you need to pay the tuition for college today. You don’t want to refinance the house because that loan and higher payments will be with you for 30 years (or whatever is the term of the loan). With a HELOC, you can take out the money you need and make monthly interest payments on it. When your bonus comes in, pay off the HELOC balance, and, poof, that extra monthly payment disappears.
If you are a homeowner, chances are you have a HELOC - Home Equity Line Of Credit.
Its popularity has grown due to rising home values, thus increased in homeowner’s equity. You can make use of that equity by taking out a HELOC. The increase in equity is not just paper gain, you can actually convert it to cash.
HELOC works like a credit card, but with lower interest rate, higher limit, and tax deductible interest. You take out what you need, pay interest only on it, and you have up to 20 years to pay off the principle. You can see why it’s popular.
The drawback is, it is tied to your house, a lien on your house. If you fail to make payments, you can lose your house.
Most banks offer HELOC with no fees. There is no application fee, appraisal, credit check, none whatsoever. However, there is usually an early closure fee, if you close your line of credit within two years.
The interest rate of HELOC is usually tied to the Wall Street prime rate plus a margin. How much the margin is depends on your credit score. If you have excellent credit, you can even have a margin of zero. That means your interest rate is whatever the prime rate is.
As the prime rate moves up or down, so does your interest rate and payment. Between 2001 and 2003, prime was dropping, even down to an incredible 4%. Homeowners were esctatic. They can take more money out and still maintain the same payment. For example, if you took out $20,000 at 5%, your monthly interest payment is approximately $83. At 4% interest rate, you can take out another $5,000 and your payment would remain the same. It’s like getting free money!
The recent rise in prime brought homeowners back down to earth. They see their payments go up steadily as the prime crept up a quarter percent every few months. With prime at 6.25% today, it is still affordable for most people to get a HELOC, to spend on perhaps a needed improvement on the house or their child’s college education. The monthly interest payment on $20,000 at 6.25% is just under $105.
Just make sure you know you can make those payments. If you don’t, you will lose your house.
(All calculations and terms described above are approximations, not guaranteed. Terms of HELOC vary according to the lender.)