Do You Lose Equity When You Refinance?

The impact of refinancing on home equity

Do you lose equity when you refinance? As is usual with such questions, the answer is... it depends.

You certainly will reduce your home equity if you opt for a cash-out refinance. By definition, one of those involves “tapping” your equity. You’re borrowing money for any purpose with a new mortgage with a higher balance.

But other forms of refinancing generally leave your amount of equity untouched or barely touched. That’s untouched if you fund your closing costs yourself or barely touched if you get your mortgage lender to add them to your new mortgage balance.

Opting for a shorter mortgage duration is a type of refinancing that can significantly boost your equity. However, shortening the repayment period will generally increase your monthly payments.

So, do you lose equity when you refinance? Only sometimes.

In this article (Skip to...)

• Do you lose equity when you refinance?
• Pros and cons of refinancing
• Tips for building home equity after refinancing
• The bottom line

What is equity?

If some of that sounds confusing, you may need reminding of what home equity is. Curious how to calculate home equity? It’s the difference between your home’s current market value and your mortgage balance today.

So, supposing your home is now worth $350,000. And you check your mortgage balance online and find it’s $150,000. Your home equity is $200,000. ($350,000 market value - $150,000 mortgage balance = $200,000 equity.)

How much equity you have will mostly depend on how recently you bought your home and how quickly home prices in your area have risen. Home prices have fallen in relatively few pockets of the United States, meaning owners have “negative equity.” In other words, they owe more on their homes than those homes are worth.

But, for the vast majority of homeowners, their properties are important contributors to their net wealth. CoreLogic, which monitors home equity, reckons such equity increased 9.6% between April 1, 2023, and March 31, 2024. In cash terms, those homeowners together added $1.5 trillion to the value of their homes over just that year.

“The average mortgage holder now has $299K in equity, $193K of which is “tappable” and could be withdrawn while still maintaining a healthy 20% equity stake.” — ICE Mortgage Monitor, February, 2024

Do you lose equity when you refinance? How refinancing affects home equity

When you refinance, you replace your existing mortgage with a whole new one. Although streamline mortgage refinances can be less expensive, the new mortgage loan will probably come with closing costs and an administrative burden similar to those of a fresh mortgage of the same size.

So, you’re not going to do this for fun. And you’ll want financial benefits. There are two types of refis that can deliver those:

1. A rate-and-term refinance — You get a lower monthly payment either by reducing your interest rate or by spreading your payments thinner by extending the term of your loan. Alternatively, if your cash flow is strong, you could reduce your loan term, increasing your monthly payment but slashing your total cost of borrowing
2. A cash-out refinance — You walk away from closing with a lump sum. And you can do what you want with the money: make home improvements, consolidate high-interest debts or take the vacation of your life. But you’ll be reducing the equity in your home by the amount you cash out, plus closing costs

We mentioned streamline refinances earlier. These often allow you to refinance your existing mortgage with less hassle and lower costs than a normal refi. But they’re never available for cash-out refinances nor when you’re swapping one mortgage type for another.

The mortgage rate environment

It’s easy to justify a refinance when mortgage rates are dropping. You’re replacing your existing mortgage’s higher interest rate with a lower one, which typically reduces your monthly payment. And you can usually roll up your closing costs within your new mortgage. However, those costs will slightly increase your mortgage balance if you do that. Still, overall, it’s hard to spot a downside.

But refinancings become much less attractive when mortgage rates are or have been rising. Why take on a mortgage with an appreciably higher rate? There are really only two circumstances in which that makes sense. And both harm your personal finances.

Short-term gains and long-term losses

First, you may be in urgent need of cash. If you’re in a dire situation, you may be willing to take the long-term hit to put a short-term obstacle in your rear-view mirror.

And, secondly, you might be able to get a lower monthly payment, even with a higher mortgage rate, if you extend the term of your mortgage far enough. Suppose you got a 30-year mortgage 18 years ago. If you refinance to a new 30-year mortgage now, you’ll be spreading your repayments over 48 years instead of 30 years. So, each monthly payment should be lower.

But you can imagine what that does to your total interest bill. And you will be free of your mortgage 30 years rather than in 12 years’ time. So, you’ll likely wish to consider this only if your existing mortgage payment is causing you real distress.

Other times refinancing to a slightly higher rate may work

There are other circumstances in which refinancing might make sense if current average mortgage rates aren’t too different from the one you’re now paying.

For example:

1. If your credit score has improved dramatically you might qualify for a below-average rate rather than your current above-average one
2. Those with FHA or USDA mortgages can only escape monthly mortgage insurance premiums by refinancing to a conventional loan with 20% down. That might save you more than a slightly higher rate costs you
3. You may calculate that the interest savings you make by reducing your term outweigh the extra cost of a slightly higher rate. And shorter loan terms typically come with lower interest rates, anyway

Do you lose equity when you refinance in those three cases? Only if you take cash out or add the closing costs to your mortgage balance.

The great thing about refis is that they’re all down to math. If you can make the figures work for you, go for it. If you can’t, don’t. Use our refinance calculator to model your options.

Pros and cons of refinancing

Refinancing your mortgage can offer various benefits and drawbacks depending on your financial situation and goals. Before making a decision, it’s important to weigh the pros and cons to determine if refinancing is the right move for you.

Pros

Typically:

• Lower rates can make monthly payments more manageable
• Shorter mortgage terms lead to faster equity building
• Refinancing FHA and USDA loans to conventional mortgages can eliminate mortgage insurance premiums
• Longer terms may reduce monthly payments
• Cash-out refinances can meet urgent financial needs

Cons

Typically:

• Refinancing to a higher rate means a higher monthly payment
• Cash-out refinancing reduces your home equity by the amount you take out, plus closing costs
• Adding closing costs and fees to your new mortgage balance reduces your equity a bit
• Extending a term increases the total cost of borrowing because you’re paying interest for a longer period
• Longer terms slow the rate at which you build equity
• Shortening your term will likely increase your monthly payment
• You’ll need 20%+ equity and a 620+ credit score to refinance to a conventional mortgage

Do you lose equity when you refinance? Only if you take cash out or add your closing costs to your new mortgage balance.

Tips for building home equity after refinancing

You can quickly restore the equity you lose when you add closing costs to your mortgage balance. You just have to make higher or additional payments.

Indeed, you can increase your equity at any time by making such payments. Some find making four-weekly payments rather than monthly ones a pain-free way to build equity quicker.

But, before you make higher or additional payments, it’s a good idea to call your mortgage servicer (the company to which you make monthly payments) to explain what you want to achieve. Tell its agent that you want to make “principal-only” extra payments. That way, all the money goes to reducing your mortgage balance. Otherwise, Chase explains, “you may find the extra payment going toward the interest you owe rather than the principal.”

The fastest way to build equity is to shorten the term of your loan. Suppose you got your existing 30-year mortgage 10 years ago. It has 20 years left to run. By refinancing to a 15-year term, you’ll be paying for your home in 25 years instead of 30. Not only will you be mortgage-free five years sooner, but the shorter term will reduce the total amount of interest you pay.

Unfortunately, a shorter term means a higher monthly payment. So, this is open only to those with plenty of money left over at the end of each month.

Do you lose equity when you refinance? The bottom line

You’re likely going to lose equity if you refinance only to take cash out or add your closing costs to your new mortgage’s balance.

In most cases, it’s best to wait to refinance until you qualify for a lower mortgage rate than the one you’re currently paying. But there are circumstances in which it can make sense to refinance to a slightly higher rate.

The most obvious of these is when you have an urgent need for money that overrides the long-term consequences of your cash-out refinance. But there are others.

Before refinancing your whole mortgage to a higher rate to access cash, explore alternatives, including home equity loans and home equity lines of credit. With these, you pay a higher rate only on the amount you borrow, not on your entire mortgage.

When deciding whether to refinance, be guided by the math. How much will you benefit? What are the costs? Do financial upsides outweigh any financial downsides?

You can use our calculators to help you model your options. But it’s always a good idea to discuss your options with a financial or mortgage advisor before taking such consequential steps.