Cashing In Home Equity

If you need extra money for making improvements to your house, for college funds, or other expenses, cashing in home equity is an attractive option. Generally speaking, you'll get a better interest rate than if you took out a bank loan for such expenses, and oftentimes you can cash in part of your home's equity without increasing your monthly expenses.

There are a number of ways for you to cash in your home's equity, each with its positives and negatives:

Home Equity Conversion Mortgages:

For those over age 62, a Home Equity Conversion Mortgage (HECM) may be the best way for cashing in home equity. Home Equity Conversion Mortgages are commonly called "reverse mortgages," because the amount of equity in the home decreases rather than increases over the length of the mortgage.

Reverse mortgages are best suited for those who have considerable equity in their homes, but who do not have substantial cash assets. There are a number of purposes for which reverse mortgages can be used, including making home improvements or simply supplementing Social Security benefits or other income.

Those who qualify for a reverse mortgage can choose to receive monthly payments to augment their income, or borrow a lump sum for home improvements, or establish a line of credit.

Reverse mortgages are available through commercial lenders, and are also available through a program from the U.S. Department of Housing and Urban Development (HUD)

Reverse mortgages have restrictions on who can qualify, the purposes for which the funds can be used, the amount of funds that can be borrowed, and how long the term of the mortgage will be.

FHA loans:

If you're looking to cash in part of your home's equity for home remodeling, you should consider home improvement loans backed by the Federal Housing Administration (FHA).

FHA home improvement loans are issued by FHA-approved commercial lenders. Because the loans are insured by the FHA, interest rates are often lower than rates offered by other lenders.

An additional advantage with FHA home improvement loans is that they're often available to those whose incomes or financial situations preclude them from getting a loan through private lenders.

FHA home improvement loans carry restrictions on the amount of money borrowed, the types of home improvements the loans can be used for, on how long the term of the loan can be, and on borrower eligibility.

Mortgage Refinancing:

If you're considering cashing in home equity, and interest rates are low, refinancing your mortgage may be a good option. If you can reduce the interest rate on your mortgage by one or two percentage points, you'll save a lot of money over the term of your mortgage. The amount you save by refinancing could easily exceed the amount that you're taking out in cash from the refinance.

Refinancing when you reduce your interest rate by less than one percentage point, though, makes little sense. The cost of the refinancing will outweigh the savings gained by such a small rate decrease.

One disadvantage to refinancing your mortgage is that you're essentially starting over. You'll be offered the same fixed rate or adjustable rate packages, and you'll pay the same types of closing costs.

You'll also be starting over with the amount of your payment that is applied to your principal balance. With every monthly mortgage payment you make, the amount of that payment going to interest decreases, and the amount applied to your principal balance increases. When you refinance a mortgage, you start all over again with nearly all of your monthly payment being applied to interest, and little being applied to principal.

Don't use refinancing to cash in home equity unless you can reduce your interest rate significantly. And, if you do refinance, consider doing a shorter term mortgage so that you will pay down the principal balance more quickly.

Home equity loan:

Rather than refinancing for cashing in home equity, you might want to consider a home equity loan. A home equity loan usually has lower closing costs. What's more, you won't go back to having most of your monthly mortgage payment being consumed by interest.

A home equity loan is an entirely separate loan from your mortgage. Home equity loan interest rates are usually higher than for mortgages, and the loans have shorter terms.

Home equity loans are best used for specific purposes, such as home improvements or other purposes for which you know the amount of cash you need.

Line of credit:

If you don't need a lump sum from cashing in your home's equity, you might consider a home equity line of credit.

A home equity line of credit allows you to determine how much money you're going to borrow, and when you're going to borrow it. Many people simply like having a line of credit available to them in case of emergencies.

Lines of credit often have lower interest rates than you would get through refinancing your mortgage. However, the introductory rates on lines of credit are often "teaser rates," just as you find with credit cards. While the interest rates on home equity lines of credit are lower than credit card rates, the rates on lines of credit can rise or fall.

Lines of credit are extended for a fixed period of time. After that period, the lender may or may not renew your line of credit, or may renew it at a different interest rate. While it's up to you to determine whether or not you want to renew your line of credit, your lender may require you to pay any outstanding balance in full if you do not renew.

If you're like most people, your home is your most valuable asset. Before you reduce the amount of equity you have in your home, be sure you're using the cash for a purpose you won't later regret.



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