Understanding Blended Interest Rates
When you have both a first mortgage and a HELOC, your true borrowing cost is the blended (weighted average) rate across both loans. This is crucial for comparing against refinancing options.
How Blended Rate is Calculated
Formula:
((Mortgage Balance × Mortgage Rate) + (HELOC Balance × HELOC Rate)) ÷ Total Balance = Blended Rate
Example:
First Mortgage: $300,000 at 3.5%
HELOC: $50,000 at 8.5%
(($300,000 × 0.035) + ($50,000 × 0.085)) ÷ $350,000
($10,500 + $4,250) ÷ $350,000 = 4.21% blended rate
Why Blended Rate Matters
When deciding whether to refinance, you need to compare your blended rate to the new refinance rate. In the example above, if a cash-out refinance offers 7%, your current blended rate of 4.21% is much better—even though the HELOC alone is 8.5%.
Blended Rate vs. Cash-Out Refinance
Scenario: Should you refinance?
Current Situation:
Mortgage: $400,000 at 3.25%
HELOC: $75,000 at 9.0%
Blended Rate: 4.16%
Combined Payment: $2,500/month
Cash-Out Refinance Option:
New Loan: $475,000 at 7.0%
New Payment: $3,160/month
Verdict: Keep the current setup! You'd pay $660/month more with the refinance.
When Blended Rate Analysis Helps
- Refinance Decisions: Compare blended rate to new refinance rate
- True Cost Understanding: Know your actual borrowing cost
- Budget Planning: Calculate total interest expense across all loans
- Debt Payoff Strategy: Determine which loan to pay off first
Limitations of Blended Rate
- Doesn't account for different loan terms (15-year vs. 30-year)
- Ignores variable vs. fixed rate risk
- Doesn't factor in tax deductibility differences
- Changes as you pay down principal or draw more on HELOC
Optimizing Your Blended Rate
- Pay Down Higher-Rate Debt First: Usually the HELOC
- Refinance Strategically: Only if new rate beats blended rate
- Consider Rate Locks: Convert variable HELOC to fixed if rates are rising
- Monitor Regularly: Recalculate as balances and rates change
Expert Tips for Smart Borrowing
The 'Golden Handcuffs'
If your blended rate is under 4%, hold onto those loans! You are borrowing money cheaper than inflation.
Don't Panic Over High Rate HELOCs
A 10% HELOC sounds scary, but if it's only 5% of your total debt, your overall cost of borrowing barely moves.
Compare to Savings
If your blended rate is 3.5% and you can earn 5% in a savings account, don't pay off the debt. Keep the cash and earn the spread.
Weighted Average
Don't obsess over the high rate of a small loan. If it's a small part of your total debt, its impact on your blended rate is minimal.