Can I Refinance If I Have a HELOC?

A primary mortgage is the initial loan used to purchase a home, representing the largest loan secured by the property. A Home Equity Line of Credit (HELOC) is a revolving credit line secured by your home’s equity, allowing homeowners to borrow funds as needed, similar to a credit card.

This article outlines options for refinancing a primary mortgage when an existing HELOC is in place, explaining how these two financial instruments interact during the process and providing key considerations for homeowners.

Understanding Your Existing Mortgage and HELOC

The distinction between a primary mortgage and a HELOC lies in their lien positions, which determine the order of repayment in a sale or foreclosure. A primary mortgage typically holds the “first lien” position, meaning its lender has priority in receiving repayment from the home’s sale proceeds.

A HELOC is generally a “second lien” or junior lien, meaning it is subordinate to the primary mortgage. In a sale or foreclosure, the HELOC lender is repaid only after the first mortgage is satisfied. This lien hierarchy is important for refinancing, as a new primary mortgage lender will almost always require their loan to be in the first position.

HELOCs allow homeowners to borrow against their home’s equity up to a set credit limit. They feature a draw period for accessing funds and a subsequent repayment period. During the draw period, funds can be accessed, repaid, and re-borrowed, often with interest-only payments. A repayment period then begins, requiring principal and interest payments, and new funds cannot be drawn. HELOCs commonly have variable interest rates. Lenders often limit the combined loan-to-value (CLTV) ratio for a HELOC, typically allowing borrowing up to 80% to 90% of the home’s value, including the primary mortgage.

Refinancing Your Primary Mortgage While Retaining Your HELOC

Homeowners can refinance their primary mortgage while keeping their existing HELOC. This involves replacing only the first mortgage with a new one, leaving the HELOC active as a separate loan. The new primary mortgage lender will require their loan to be in the first lien position, necessitating a process called subordination.

A subordination agreement is a legal document where the HELOC lender agrees to allow the new primary mortgage to take first lien position. This is crucial because without it, the HELOC would automatically move into the first position when the old primary mortgage is paid off, which is unacceptable to the new mortgage lender. The HELOC lender typically agrees to subordinate if the homeowner’s financial situation and home equity remain sound.

The HELOC lender may request documents like new loan terms, income verification, and an appraisal to assess risk before approving subordination. Once approved, the subordination document is signed, allowing the new primary mortgage to close with first lien status while the HELOC remains active in the second lien position. Subordination can add time to the refinancing process, potentially taking several weeks. If home equity has significantly decreased or financial standing changed, the HELOC lender might freeze the credit line or reduce its limit even after subordination.

Refinancing to Consolidate Your Primary Mortgage and HELOC

Another refinancing strategy involves consolidating both the primary mortgage and the HELOC into a single, new primary mortgage. This simplifies debt management by combining two separate payments into one. This typically involves a “cash-out refinance,” where the new loan is larger than the existing primary mortgage balance, with additional funds used to pay off the HELOC.

The process begins with applying for a new, larger mortgage covering both outstanding balances. Lenders will appraise the home to determine its market value and assess the maximum loan amount, usually limited by a loan-to-value (LTV) ratio, often up to 80% for a cash-out refinance. Proceeds from this new loan pay off both the original primary mortgage and the HELOC, resulting in a single mortgage payment.

Consolidation offers benefits such as a single, often fixed, interest rate for the entire debt, providing payment predictability. It can also lead to a lower overall interest rate compared to a variable-rate HELOC, especially if interest rates have decreased since the HELOC was originated. Reasons for choosing this option include simplifying finances, seeking a fixed rate, or potentially lowering the combined monthly payment by extending the repayment term.

Key Factors for Your Refinancing Decision

Several financial factors warrant careful consideration when deciding whether to refinance a primary mortgage with an existing HELOC. An individual’s credit score significantly influences eligibility for a new mortgage and the interest rate offered. A higher credit score typically leads to more favorable loan terms.

Current interest rates compared to existing rates on both the primary mortgage and the HELOC are important. Refinancing can be advantageous if new rates offer substantial savings, particularly for a variable-rate HELOC. Home equity, expressed as a loan-to-value (LTV) ratio, also plays a significant role, as lenders have specific LTV requirements. For example, a cash-out refinance often requires maintaining at least 20% equity.

Refinancing involves closing costs, which are fees associated with originating the new loan. These costs typically range from 2% to 6% of the new loan amount and include loan origination fees, appraisal fees, and title insurance. Understanding these upfront expenses is important for calculating the “breakeven point,” the time it takes for monthly savings to offset closing costs. Your financial goals, such as lowering payments, securing a fixed rate, simplifying debt, or accessing cash, should align with the chosen strategy. How long you plan to remain in the home can influence the benefit derived from refinancing, particularly concerning the breakeven point.