HELOC vs Refinancing: Two Ways to Borrow Home Equity

HELOC vs refinancing your mortgage

Option A

5.45%

Interest: $3,270

Option B

4.29%

Interest: $2,574

From the worked example “Interest on $60,000: HELOC rate vs mortgage rate”. $60,000 carried for a full year at an illustrative HELOC rate of 5.45% versus an illustrative mortgage rate of 4.29%, ignoring compounding differences.

If you need to borrow a large sum and own a home with equity, two options usually come up. A home equity line of credit gives you a revolving limit at a variable rate. A refinance replaces your mortgage with a larger one, usually at a mortgage rate, with the extra paid out to you. The rate may be lower on the refinance, but refinancing mid-term can trigger a prepayment penalty, and the two loans behave very differently once the money is spent. Here's how to compare them.

Mitey: “Same house, two very different loans.”

Two ways to borrow against your home

A HELOC is a line of credit secured by your home. It can be up to 65% of your home's value, and combined with your mortgage, borrowing can usually reach up to 80%. You draw what you need, pay interest on what you use, and can borrow again as you repay. The rate is variable.

A refinance replaces your current mortgage with a new one for a larger amount, with the difference paid to you. It can be fixed or variable, has a term and an amortization like any mortgage, and is repaid in regular instalments. FCAC's page on borrowing home equity covers both options, along with second mortgages, whose rate is generally higher than a first mortgage.

Side by side

Neither option is better in general. The table shows where each tends to fit.

HELOC vs refinance at a glance
	HELOC	Refinance
Rate type	Variable	Fixed or variable
How you borrow	Draw as needed, up to a limit	Lump sum at closing
Repayment	Depends on the agreement; may require only interest	Regular payments that include principal
Up-front costs	Ask about appraisal, legal and set-up fees	Ask about appraisal, legal and registration fees
Breaking your current mortgage	Not needed if added alongside it	A penalty may apply if done mid-term
Tends to suit	Uneven or short-term needs you'll repay	A large sum you'll repay over years

The rate gap, in dollars

On the same $60,000, an illustrative HELOC rate of 5.45% costs $3,270 a year in interest, while an illustrative mortgage rate of 4.29% costs $2,574. That gap of $696 a year is the case for refinancing.

Check your own HELOC rate in the HELOC checker and any mortgage offer in the fixed mortgage checker. Both are scored against what lenders actually charged on similar new borrowing.

Worked exampleInterest on $60,000: HELOC rate vs mortgage rate

Balance: $60,000
Rate A: 5.45%
Rate B: 4.29%
Interest A: $3,270
Interest B: $2,574
Interest difference: $696
Monthly interest A: $272.50
Monthly interest B: $214.50

Assumptions: $60,000 carried for a full year at an illustrative HELOC rate of 5.45% versus an illustrative mortgage rate of 4.29%, ignoring compounding differences. Computed by the site's calculators.

The cost the rate doesn't show: breaking your mortgage

If you refinance a closed mortgage before its term ends, you are breaking the contract. The penalty is usually the higher of three months' interest or the interest rate differential (IRD). On an illustrative $400,000 at 4.89% with 30 months left, three months' interest is $4,890, and a simplified IRD using a comparison rate of 4.29% is $6,000. The penalty would be $6,000, from the interest rate differential.

Set that against the rate gap above and a refinance can take years to pay for itself. Lenders must tell you how they calculate the penalty, so ask for a written figure. The prepayment penalty estimator and our prepayment penalties guide explain the details. If your term ends soon, refinancing at renewal avoids breaking the contract.

Worked exampleThe penalty for refinancing mid-term

Balance: $400,000
Contract rate: 4.89%
Comparison rate: 4.29%
Months left: 30
Three months' interest: $4,890
Simplified IRD: $6,000
Likely penalty (larger): $6,000
Method: the interest rate differential

Assumptions: A $400,000 closed fixed mortgage at an illustrative 4.89% with 30 months left, and an illustrative 4.29% comparison rate; a simplified estimate, not a lender's calculation. Computed by the site's calculators.

How each loan gets repaid

A refinance repays itself on a schedule. Add $60,000 to a mortgage at 4.29% over a 25-year amortization, and the extra payment is about $325.12 a month, of which $1,377 goes to principal in the first year and $2,525 to interest.

A HELOC only shrinks when you pay more than the interest, if your agreement requires only interest. That flexibility helps when cash is tight, and hurts when it lets a balance linger. A HELOC used for a one-off cost works better with a repayment plan you set yourself.

Worked examplePrincipal repaid in year one on an amortizing $60,000

Amount: $60,000
Rate: 4.29%
Payment: $325.12
Year-one interest: $2,525
Year-one principal: $1,377
Interest share of payments: 64.71%
Monthly periodic rate: 0.35%

Assumptions: $60,000 added to a mortgage at an illustrative 4.29% fixed rate, 25-year amortization, semi-annual compounding, monthly payments. Computed by the site's calculators.

Questions to settle before you choose

For the HELOC side, see what is a good HELOC rate. If the money is to pay off other debts, debt consolidation rate math covers the extra steps.

How long will you need the money? A short need leans toward a line; a long one toward a mortgage.
When does your current mortgage term end, and what is the written penalty to break it now?
What are the set-up costs of each option: appraisal, legal, registration and any discharge fees?
How will the HELOC and mortgage be registered, and what does that mean if you switch lenders later?
Will you pay down a HELOC faster than a mortgage would require? Be honest about it.

Questions people ask

Is refinancing always cheaper than a HELOC?

Not always. A mortgage rate may be lower, but a mid-term penalty and set-up costs can outweigh the rate gap, especially for a sum you'll repay quickly. Compare the total cost over the time you expect to carry the debt.

Can I refinance without paying a penalty?

Refinancing at the end of your term avoids breaking the contract. An open mortgage has no prepayment penalty. Otherwise, ask your lender for the exact penalty in writing.

Can I have a HELOC and a mortgage at the same time?

Yes. Many are set up together. Combined, borrowing against your home can usually reach up to 80% of its value, with the HELOC portion up to 65%.

Does a refinance affect mortgage loan insurance?

It can affect insurance and qualification rules; ask the lender. You may also need to pass a mortgage stress test to qualify for the new, larger mortgage.

Which option suits a renovation?

It depends on how the costs arrive and how long you'll take to repay. A HELOC suits staged costs; a refinance suits a fixed sum repaid over years. Weigh the penalty, the rate gap and your repayment plan.