Refinancing a home equity loan allows borrowers to take advantage of lower rates or covert a variable rate product to a fixed loan. It also allows borrowers to avoid balloon payments and draw on more of their home equity. Much like the original home equity loan, however, your ability to qualify is based on your income, debt and credit history, as well as the amount of equity you have in the property.
When you apply for a refinance, the lender will consider the same factors it did when approving the original loan. Expect the lender to examine:
- The amount of equity you have in your home
- The amount you want to borrow
- Your credit score
- Your income
- Your employment history, particularly how long you have been in your current job
In particular, pay attention to the loan-to-value ratio. To get that number, you take the amount of money owed on the property -- from your primary mortgage and any secondary loans, such a home equity line of credit not covered by the refinancing plan -- and divide that by the property's value. Many lenders cap the amount that you can borrow to 80 percent of your home value.
If you're refinancing a home equity loan to secure a home equity line of credit, you're likely exchanging a fixed rate for a variable rate. Before doing so, certified financial planner Don St. Clair suggests considering how a rise in interest rates might affect your ability to make the required payments.
The Application Process
Applying for a home equity loan varies by lender. However, the basic process looks like this:
- Fill out the application. Many lenders allow you to do this online, over the phone or in person.
- Provide the required documentation to verify your income and assets. This might include pay stubs, individual tax returns, and bank or asset statements. Many banks provide a checklist of what you're likely to need based on your individual situation.
- Allow the lender to conduct an appraisal and a title report. The appraised value of the property determines how much you can borrow, while title reports verify ownership. You may be assigned a fee for both that you'll pay at closing.
- Final verification of employment, home insurance coverage and other information to assure you meet the loan requirements.
- Conduct the closing process, where you'll agree to the loan terms, present photo ID, settle any required fees and arrange for how you'll receive the money. Your closing agent will apply the necessary funds to pay off your existing loan, or you can do so on your own.
125 Percent LTV Loans
Some lenders will make loans for greater than the value of the property, such as 125 percent loans. These loans require a strong credit profile and substantial documentation of your income and other assets. Loans tend to be for your primary residence, and you'll pay substantially higher interest rates. At the Federal Credit Union, for example, you may pay as little as 4.75 percent APR for a 10-year home equity loan at 80 percent LTV, but 9 percent for a loan at 125 percent LTV for that same period.