I Chose a Cash-Out Refinance Over a Home Equity Loan. Here's Why

A cash-out refinance loan offered some benefits I couldn't pass up.

Not too long ago, I decided to tap into the equity in my house. I had paid down quite a bit of my mortgage loan and wanted to put some of that money towards other financial goals.

There are a few different ways to do that. For example, I could have taken out a home equity loan or line of credit. But I went another route instead with a cash-out refinance loan. Here's why.

Cash-out refi loans vs. home equity loans

First things first, it's important to understand the difference between a cash-out refinance loan and a home equity loan.

A cash-out refinance loan involves taking out an entirely new mortgage with different terms. You'd then use part of the proceeds to repay your current loan. It's called a "cash out refinance" because you borrow more than you currently owe. You'd cover your existing balance and still have some extra cash.

For example, let's say owe $300,000 on your mortgage and take a cash-out refinance loan of $350,000. You'd use $300,000 to pay off your existing loan and walk away with the extra $50,000.

Home equity loans or lines of credit work differently. These types of loans don't impact your existing mortgage. You are simply taking an additional loan that's also guaranteed by the value of your home.

So while both let you tap into equity, they are very different financial products.

Here's why I opted for a cash-out refi

There are a few key reasons I chose a cash-out refinance loan when I wanted to take money out of my home:

• I was able to drop the interest rate on my current loan. This reduced my mortgage costs over time. I wouldn't have been able to do this if I'd taken out a home equity loan unless I also refinanced in a separate transaction.
• I can make just one monthly payment. I didn't want to complicate my financial life by owing money on my mortgage and another loan. With a cash-out refi, I still have just one monthly payment to make instead of two.
• My interest will be tax deductible. Interest on home equity loans and lines of credit is only tax deductible if you fulfill certain requirements, such as using the money to improve the home. When you take a cash-out refi, the mortgage interest is always deductible -- provided you itemize on your taxes and your loan balance is below the $750,000 deductibility limit.
• The cash-out refi rate was lower. Home equity loans and lines of credit tend to have higher interest rates than cash-out refinance loans. This is because they're secondary loans and the primary mortgage lender has a stronger claim to the house. I didn't have to worry about that with the cash-out refi, so I was able to get a rock-bottom rate.

Of course, there is a downside. I'll be paying off the refinance loan for longer than I would have with a home equity loan or line of credit. This could theoretically mean more interest costs in total, despite the fact I qualified for a loan at a lower rate.

Ultimately the major benefits of a cash-out refinance loan made this the right choice for me. And if you want to tap into the equity in your home, it's worth considering this option too -- as long as you can drop the interest rate on your current loan in the process.