Whether it’s a kitchen remodel or dedicated work space, after a year of staying in, most homeowners have at least entertained the idea of a home renovation project.
Yet anyone who has tried to tap their house for cash might be in for a surprise.
Skyrocketing home prices have resulted in a record amount of home equity on hand. By the end of last year, roughly 46 million homeowners held a total $7.3 trillion in equity to tap, the largest amount ever recorded, according to Black Knight, a mortgage technology and research firm.
Still, it’s not always easy to access that money. Since the start of the coronavirus pandemic, several large banks stopped offering home equity lines of credit altogether to lower their exposure — or risk — during uncertain economic times.
Up until last year, a HELOC, which is a revolving line of credit but with better rates than a credit card, had been a popular way to borrow against the equity you’ve accumulated in your home.
The average interest rate on this type of credit is 4.86%, according to Bankrate.com. Meanwhile, credit cards charge nearly 16%, on average.
Some banks do still offer this option, although most have tightened their standards, at least somewhat. That means homeowners must have higher credit scores and lower debt-to-income ratios.
“Generally, the higher your credit score, the easier it is going to be to access home equity,” said LendingTree’s chief economist, Tendayi Kapfidze.
There is, however, a better way to free up some of that money, he added.
“Because interest rates are so low, your best bet is going to be cash-out refinance,” Kapfidze said. “The rates are lower than a home equity loan rate and lower than your existing mortgage rate.”
Homeowners may also be able to deduct the interest on the first $750,000 of the new mortgage if the cash-out funds are used to make capital improvements (although since fewer people now itemize, most households won’t benefit from this write-off).
This works well when mortgage rates fall because even though you are refinancing your current mortgage and taking out a bigger mortgage, you are lowering your interest payment at the same time.
Currently, mortgage rates are near historic lows.
“Since the most recent peak in April, mortgage rates have declined nearly a quarter of a percent and have remained under 3% for the past month,” Sam Khater, Freddie Mac’s chief economist, said in a recent statement.
“Low rates offer homeowners an opportunity to lower their monthly payment by refinancing and our most recent research shows that many borrowers, especially Black and Hispanic borrowers, who could benefit from refinancing still aren’t pursuing the option,” Khater said.
In fact, the federal government is launching a new refinancing program aimed specifically at homeowners who have not taken advantage of low interest rates to reset their mortgage.
“If you haven’t been looking at interest rates over the last year, now would be a great time to check that out,” said certified financial planner Douglas Boneparth, president of Bone Fide Wealth in New York.
On a 30-year mortgage, rates below 3% are still widely available. “Even those who received pretty low rates are finding themselves refinancing at lower rates today,” Boneparth said.
To be sure, there are some limitations for cash-out refinances, as well.
For starters, most lenders will require that you keep at least 20% equity in your home, if not more, as a cushion in case home prices fall.
And again, while the entire industry tightened access to mortgages amid the pandemic, some banks also stopped offering these loans altogether.
“This isn’t 2005, you can’t pull out every last nickel you have in the home,” said Greg McBride, chief financial analyst at Bankrate.com.
Still, the most preferable terms go to borrowers with high credit scores. “Most people have good enough credit but the best rates go to those with 740 or above,” McBride said.
Finally, refinancing opportunities could be short-lived. Mortgage rates won’t stay low forever, particularly as inflation ticks higher.
“That should add some urgency to getting a refinancing done sooner than later,” McBride said. “The economy is heating up — those are the conditions that produce higher mortgage rates.”