Should You Get a Personal Loan Instead of a HELOC or Cash Out Refinance?

Personal Loan vs. Cash Out Refinance or Home Equity Loan

So you want to borrow some money and are not sure about the right type of loan. Should you get a personal loan, a home equity loan, or go for a refinance with a payout?

From a distance, everything may seem mysterious and complicated. But you will likely be able to choose the type of borrowing that best suits your needs.

Because if you take a closer look, each different type of loan has advantages for certain situations. Surprisingly, you might find that personal loans are quite a competitor to more traditional home financing.

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Personal loans are “unsecured”, which puts your home at less risk

Secured borrowing is when you provide collateral for a loan. They offer collateral and give the lender permission to take it back or pledge it if you default on the loan.

With a mortgage, your home is your security. A “first” or “primary” mortgage is usually the large one you took out to buy the home. And you may have one or more second mortgages (usually home equity loans or home equity lines of credit). [HELOCs]) which are also secured at your home.

So, with these you are literally there Put your home at risk. And it’s at risk if you fail to make payments.

A personal loan is a form of unsecured borrowing.

A personal loan is a form of unsecured borrowing. The lender does not have direct access to seize a specific asset.

There are pros and cons to this. Interest rates for unsecured loans are usually higher. Also, if you stop making payments, the lender may require repayment in other ways.

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Personal loans are associated with faster closures

A personal loan already brings an obvious benefit. You don’t have to put your home at risk. And a scam. You are likely to pay a higher interest rate.

A second benefit is that you’ll almost certainly get your money much sooner than you would with a refinance or home equity product. These often take 30-45 days to get your hands on the money. A personal loan rarely takes longer than a week and you can get it in 24 hours.

But there’s a third benefit that’s often the deciding factor for borrowers: closing costs.

Advance Credit Costs

Closing costs for a personal loan

It can cost you thousands to get a mortgage. But personal loans usually come with little or no setup costs.

And that can make an enormous difference in the economics of borrowing. A personal loan is often best when you need small or medium amounts: say, in the hundreds, thousands, or low tens of thousands. And that’s in stark contrast to home equity products (loans or lines of credit) and cash-out refinancing.

Closing costs of a payout refinance versus a personal loan

Imagine you want to borrow $10,000. You pay little or nothing for a personal loan. But you could pay a lot for a payout refinance. Your closing cost would be about 3 percent of the amount you borrow.

And you wouldn’t borrow $10,000. You would borrow that amount plus your current mortgage balance. Say you currently owe $190,000. They would pay closing costs of $200,000. So your closing cost bill for a cash payout refinance could be $6,000 for a $10,000 loan!

That would only make sense if your refinance comes with other benefits, such as: B. a lower rate or a monthly payment.

Certainly you should think very carefully before refinancing at a higher interest rate. You may still get a lower monthly rate if you’ve had your mortgage for several years. But it will cost you dearly in the end.

Related: 4 cash-out refinancing options that will make your home equity work

Closing costs for home equity products

True, home equity products typically come with much lower closing costs than full cash-out refinances. But they can still be 2 to 5 percent of the amount borrowed. Of course, this amount will be lower, since in this case it would be “only” $10,000.

But it could still be several hundred dollars.

Mortgages with no closing costs

Of note are the zero-closing-cost deals for both refinancing and home equity products. These are plentiful, but you need to understand how they work.

Those that are truly free are rare. And for that you almost always pay a higher interest rate. So they might work for you, but you’ll have to do the math to see the true cost.

Personal Loan vs. Home Equity Line of Credit (HELOC)

We have already established that a cash payment is only worthwhile if you take out very large loan amounts or have other advantages such as a lower monthly payment or mortgage interest. But what about home equity products?

These are often a sensible middle ground. Closing costs are affordable and the interest rate can often be significantly lower than a personal loan. But the only way to be sure is to research the market for all competing products and compare the total costs.

But don’t forget the point about secured/unsecured loans. You may be willing to pay a little more for a personal loan than for a HELOC since you’re not putting your home on the line.

Regardless of the type of loan you want, your credit rating plays a big part in determining your cost.

If your credit score is bad (below 620 with some personal lenders), you may not get a loan at all. And if it’s just bad or fair, you’ll have to pay a much higher interest rate.

The better your score, the less you have to pay. If you can (and have to) it might be better to take some time to improve your score before applying for credit.

A personal loan has fewer hurdles

There are lower barriers to personal loans compared to cash-out refinancing or HELOCs:

  1. You don’t have to be a homeowner
  2. You don’t have to prove the market value of your home with an expensive and time-consuming appraisal
  3. The house doesn’t have to be in good condition (often you need the money to fix the house)
  4. You usually can’t take out all of the equity in your home. You’ll likely need to maintain an equity cushion of perhaps 10-20 percent of the home’s appraised value

If the latter is an issue for you, you may be able to find a more sympathetic lender. But you would probably have to be a good borrower in other ways, or be willing to pay a much higher interest rate.

Your choice – based on your situation

Sometimes a personal loan is the wisest choice. Sometimes it isn’t. At least now you know how to choose.

Let’s go. Explore the deals on offer and calculate what will cost you the least, both each month and over the life of the loan.

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*TheMortgageReports and/or our partners are currently unable to serve the following states – CA, MA, NJ, NV, RI, WI

The information contained on The Mortgage Reports website is for informational purposes only and is not an advertisement for the products offered by Full Beaker. The views and opinions expressed herein are those of the author and do not reflect the policies or position of Full Beaker, its officers, parent companies or affiliates.

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