Florida Home Loan Rates Rise: Time to Refinance a Home Equity Line of Credit?

With Florida home loan rates rising to new highs, many issues are at stake for potential buyers and current owners. For example:

If you have a home equity line of credit, is it time to refinance? Or should you keep it, despite the rate having almost doubled in the last 21 months?

Two years ago, a home equity line of credit looked like a great deal. These credit lines gave homeowners access to money at rates that were lower than those on fixed-rate Florida home equity loans or first-lien mortgages. Cheap credit lines allowed borrowers to use their homes as ATMs to pay for home improvements, college tuition, cars and vacations.

A change in Florida home equity lines

But credit lines are indexed to the prime rate - and that means borrowers’ minimum monthly payments go up whenever the Federal Reserve raises short-term rates. The Fed has done so 15 times since the middle of 2004, raising the prime rate from 4 percent to 7.75 percent. Most observers expect the Fed to hike at least once more.

Let’s take the hypothetical example of someone who borrowed $30,000 against a home equity credit line when the rate was 4 percent. Two years later, the same borrower still owes $30,000 because she has made only the minimum payments, which cover interest and not principal.

Now that the rate is 7.75 percent, the minimum monthly payment has risen from $100 to $193.75.

As you can see, credit lines are no longer the great deals they once were. The average rate on a credit line is now HIGHER than the average fixed-rate Florida home equity loan. And 30-year, fixed-rate mortgages are even lower.

Borrowers are left with three options:

1. Keep the credit line.
2. Pay it off and replace it with a fixed-rate home equity loan.
3. Do a cash-out refinance on the first-lien mortgage and pay off the credit line with the proceeds.

Maintaining the credit line

A credit line has two advantages, says Michael Moskowitz, president of Equity Now, a mortgage lender in New York: It grants you flexibility, and you pay interest on the amount owed and nothing more. If those qualities are important, you might want to keep the credit line.

The typical use of a Florida home equity line of credit has expanded to include people who need to borrow money periodically, using their house like a credit card - homeowners who renovate their homes in stages, for example, or parents who pay tuition. For these people, the flexibility of a credit line outweighs the rising interest rate.

Ideally, these borrowers draw from their credit lines and then pay some or all of the balance before drawing against the credit line again. Using a credit line this way is cheaper than using a credit card, and the interest is tax-deductible.

“If they’re not fully drawn out, and expect money to go in and out, they keep a home equity line of credit even though rates will keep going up,” Moskowitz says.

Refinancing into a fixed Florida home loan

If you can stand the higher payments, it might make sense to refinance the credit line into a fixed-rate Florida home equity loan, says Anthony LaGiglia, a financial planner with J.J. Burns & Co. in Melville, N.Y.

Right now, rates on home equity loans are roughly the same as those on home equity lines of credit. But home equity loans sport higher payments because the minimum payment includes interest and principal, and not JUST interest.

Cash-out refinancing

The other way to handle a line of credit is to pay it off with a cash-out refi. That’s when you refinance your first-lien mortgage for more than you currently owe, take the difference in cash and use that money to pay off the home equity line of credit.

Paul and Lisa Boucher are going the cash-out-refi route. The couple and their three children own a house south of Provo, Utah. When they got their home equity line of credit to finish the basement, the interest rate was 5.25 percent. Now it’s almost 10 percent. Moreover, their primary home loan is a payment-option adjustable-rate mortgage, in which the interest rate has risen from 5.75 to 6.5 percent since July. It probably will rise more.

So they’re refinancing –switching the first mortgage to a 30-year fixed, probably at 5.5 percent after paying discount points. They’ll borrow more than they owe on the payment-option ARM and use the money to pay off the $2,000 in debt remaining on the line of credit.

The Bouchers are lucky - they’re refinancing their primary mortgage at a lower rate. Not everyone is so fortunate.

“Unfortunately, the window has closed for some people,” LaGiglia says. Specifically, those who got Florida mortgages at something like 5.5 percent. Rates are so much higher now that it doesn’t make sense for these people to do a cash-out refi. As LaGiglia says, giving up a lower rate for a higher rate “is a losing proposition.”

Those people will have to keep their current lines of credit or refinance them into equity loans. It wouldn’t make sense for them to refinance their Florida home loan at this point.