Managing Debt

Refinancing a home equity line of credit

Couple researching the best options when refinancing their home equity line of credit

If you took out a Home Equity Line of Credit (HELOC), you have a draw period and repayment period. During the draw period, you can draw on your line of credit and typically only pay interest on the money you borrow.

When your repayment period hits, however, you’ll no longer be able to draw on your line of credit and must pay down the amount you borrowed plus interest. While the draw period usually lasts  5-10 years, the repayment period is typically 15-20 years.

After your draw period expires, your repayment period will begin and your payments will likely be significantly higher during this period. So, as you approach the end of your draw period, you may want to consider refinancing your HELOC. So, how do you refinance a HELOC? Keep reading to find out.

Ways to refinance a HELOC

1. Loan Modification

With a loan modification, you simply contact your lender and request an adjustment to your loan by extending its terms or reducing its interest rate so that you can better afford the monthly payments. If eligible, it may be a good option if you’re worried you won’t be able to make your payments once your draw period is over and the repayment period begins.

Pros of loan modification

Can extend terms (repayment period) for HELOC.
Can earn a lower interest rate or lock in a fixed rate.
Savings - frees up money for other debts.

Cons of loan modification

Not always an option, as request may be denied.

2. Get a new HELOC

If you get a new HELOC, you’ll be able to extend the draw period and defer the repayment period. A new HELOC may make sense if you’re young and feel confident that you’ll be able to make full payments once you enter the repayment period. It’s not a good option if you’re nearing retirement and won’t have a way to make your payments or don’t want to pay more in interest.

Pros of getting a new HELOC

Postpones the financial burden of making large payments during the repayment period.
Comes with lower upfront costs than a home equity loan.
You may be able to get more cash out if your equity allows.

Cons of getting a new HELOC

May lead to significant interest payments over the life of the loan.
Tempts you to take out more money and increase your debt.

3. Get a Home Equity Loan to pay HELOC

If you’d like to lock in a fixed monthly payment, you may want to refinance your HELOC with a new  home equity loan from Discover® Home Loans. Unlike a HELOC, which is a revolving line of credit, a home equity loan gives you access to a lump sum of money.

Pros of getting a new home equity loan

Allows you to get a fixed interest rate (hopefully lower than your current HELOC rate) that won’t change your monthly payment amount.
Alleviates the financial burden of making larger principal and interest payments than on a HELOC.

Cons of getting a new home equity loan

Closing costs and fees (although  Discover has no costs at closing).

Family spending time together after parents refinanced a HELOC

Discover Home Loans offers a mortgage refinance option with zero origination fees, zero application fees, and zero cash due at closing.

4. Get a cash-out refinance to pay off your HELOC

By refinancing your HELOC with a cash out refinance, you can get a single loan to pay off both your mortgage and your HELOC. You may be able to lock in a fixed interest rate and reduce your monthly payments.

Pros of getting a cash-out refinance to pay off your HELOC

Can leave you with additional cash for almost any need, depending on your home’s value.

Cons of getting a cash-out refinance to pay off your HELOC

May prolong the amount of time it takes to pay off your mortgage.
Closing costs and fees.
Private mortgage insurance (PMI) if refinancing results in having less than 20% equity.

Discover Home Loans offers a mortgage refinance that has zero costs at closing, zero origination fees, zero application fees, and low, fixed rates.

5. Get a Personal Loan to Pay off your HELOC

A personal loan can be used for just about anything, including paying off your HELOC. You can close out your HELOC with a Discover personal loan so that you can secure a fixed rate and don’t have to deal with fluctuating interest rates.

Pros of getting a personal loan to pay off your HELOC

Fixed interest rate that makes budgeting easier.
Easy to apply for.

Cons of getting a personal loan to pay off your HELOC

May have prepayment penalties, origination fees, and late payment fees.
Higher interest rates than home equity loan options.

What you need to qualify for HELOC refinancing

Before approving you for a HELOC refinance, a lender will make sure you meet the following requirements.

Capacity to repay the new loan or line of credit

Your capacity to repay the new HELOC or loan will be based on your income and debts. Some lenders prefer to see that your mortgage debt does not exceed 28% of your gross income and that your total debt (including mortgage, lines of credit, and any additional credit debt) should not be more than 36% of your gross income. Each lender has their own debt-to-income guidelines, but these are good rules of thumb for you to assess your own ability to repay a new loan or line of credit.

Equity in your home

Your equity is the difference between the appraised value of your home and the amount you still owe on your mortgage (including any amounts of loans or lines of credit that have not yet been repaid). Your combined loan-to-value ratio (CLTV) is your home’s value minus the total balance of all outstanding mortgages secured by your home, including the prospective home equity loan. Most lenders will cap your borrowing at 80% of your CLTV. Some lenders, like Discover Home Loans allow a CLTV of less than 90%.

Credit history & credit score

If you have a credit history of missed payments and a credit score below 580, a lender may be less likely to approve you for a new loan or line of credit to refinance your HELOC. With a strong history of on-time payments, your high credit score may improve your chances for approval.

Documents required for refinancing a HELOC

You may be surprised at the number of documents needed to refinance your HELOC:

Details of property. Your lender will need to know your property’s address to find its assessed value, which will be used as collateral for the loan if you default.
Identification documents. A government-issued photo ID like a driver’s license or passport from you and your spouse or co-applicant will be required.
Employment and income details. In addition to the name and phone number of your current employers, the lender will ask you to provide your most recent pay stubs and two years of W2s and federal tax returns. If you’re self-employed, lenders will need your personal and business tax returns.
Details of existing debts. If you have any existing debts like a mortgage, car loans, student loans, or credit card debts, you’ll have to disclose full details of each.
Property tax and HOA. Receipts of the payments you’ve made on your homeowners insurance policy, property taxes, and homeowners association fees are also required.

Reasons to Refinance a HELOC

Lower Monthly Payments

It can be difficult to go from interest-only payments during the draw period to possibly much higher principal and interest payments during the repayment period. If you refinance your HELOC, you may be able to reduce your interest rate and monthly payments so that the repayment period becomes more affordable.

Get More Money

Your home's value may have increased since you took out your HELOC. If this is the case, a HELOC refinance can allow you to get more money from your home equity. You can use the funds to remodel your home, pay for your child’s college, or even go on a vacation.