Home-equity loan vs. cash-out refinance in Texas 2025: Which offers the better tax deduction with TCJA rules expiring soon?
Home-equity loan vs. cash-out refinance in Texas 2025: Which offers the better tax deduction with TCJA rules expiring soon?
With the TCJA scheduled to sunset after 2025, Texas homeowners weighing a home equity loan vs cash out refinance need to know which move locks in the largest mortgage-interest write-off before the rules change.
Why Texans care about tax deductions on home equity in 2025
The clock is ticking for Texas homeowners considering their home equity options. For qualifying debt taken out after December 15, 2017, you can only deduct home mortgage interest on up to $750,000 ($375,000 if you are married filing separately) of that debt. But this limitation won't last forever.
A less restrictive home mortgage interest deduction will be restored beginning in 2026, with the amount of first and second home acquisition debt on which interest can be claimed returning to $1 million from the TJCA $750,000 limit. Taxpayers will once again be able to deduct interest on up to $100,000 of home equity debt as well.
This impending change fundamentally alters the calculus for Texas homeowners. At the end of December 2025, the provisions in the subtitle on Individual Tax Reform of the TCJA are scheduled to expire. The difference between current and future deduction limits could mean thousands of dollars in tax savings, especially for homeowners with substantial equity.
Current IRS rules on deducting interest: 2018-2025 window
Under the current TCJA framework, the rules are clear but restrictive. Interest on home equity loans and lines of credit are deductible only if the borrowed funds are used to buy, build, or substantially improve the taxpayer's home that secures the loan.
For tax years 2018 through 2025, if home equity loans or lines of credit secured by your main home or second home are used to buy, build, or substantially improve the residence, interest you pay on the borrowed funds is classified as home acquisition debt and may be deductible, subject to certain dollar limitations.
The Tax Cuts and Jobs Act introduced strict limits that remain in effect through 2025. Mortgage interest is deductible under the Tax Cuts and Jobs Act of 2017. If you itemize your deductions, the IRS allows you to deduct interest on your new cash-out refinance loan up to $750,000 for married couples filing jointly and $375,000 for single filers.
Tracing rules: why how you spend matters
The IRS doesn't treat all borrowed money equally. The IRS uses tracing rules to determine how borrowed funds are used and whether the interest is deductible.
Interest on the new mortgage is deductible only if the proceeds are used for home improvements, such as remodeling a home office or upgrading energy-efficient systems. This requirement applies whether you choose a cash-out refinance or a home equity loan.
A cash-out refinance saves more in interest costs compared to a home equity loan, as shown in an example comparing costs over 10 years. However, the tax benefits only materialize when funds directly improve the property securing the loan.
Unique Texas rules that tilt the scales
Texas homeowners face additional constraints that don't exist in other states. Texas law requires homeowners to keep at least 20% equity in their home after a cash-out refinance. This 80% loan-to-value ceiling protects homeowners from over-leveraging but limits access to equity.
The state also imposes strict cost controls. Texas law caps total closing costs at 2% of the loan amount (excluding costs like taxes and insurance). This cap can make smaller cash-out refinances less economical for lenders, potentially affecting loan availability.
If you take out a Texas cash-out refinance loan, any future refinance on that property will also be considered a cash-out loan, even if you don't take out additional equity. This permanent designation affects future refinancing flexibility and costs.
"Once a cash-out, always a cash-out" rule
The implications of Texas's unique refinancing restriction extend far beyond the initial transaction. If you take out a Texas cash-out refinance loan, any future refinance on that property will also be considered a cash-out loan, even if you don't take out additional equity.
This rule permanently changes the nature of your mortgage. If you take out a Texas cash-out refinance loan, any future refinance on that property will also be considered a cash-out loan, even if you don't take out additional equity. The designation follows the property, not the borrower.
A cash-out refinance may be the smarter option if you want a lower interest rate and to deal with just one big debt. However, Texas homeowners must weigh this benefit against the permanent refinancing limitations.
Which path yields the bigger deduction now — and after 2025?
The tax deduction landscape shifts dramatically depending on when you act. A less restrictive home mortgage interest deduction will be restored beginning in 2026, with the amount of first and second home acquisition debt on which interest can be claimed returning to $1 million from the TJCA $750,000 limit. Taxpayers will once again be able to deduct interest on up to $100,000 of home equity debt as well.
If Congress allows the TCJA provisions to expire, the MID will revert to its pre-2018 form: deductibility on up to $1 million in mortgage debt and $100,000 in home equity debt—regardless of how the funds were used.
The Congressional Research Service provides stark numbers on the fiscal impact. For mortgage debt incurred after December 15, 2017, the limit is $750,000 ($375,000 for married filing separately). But this changes completely in 2026.
After the expiration of temporary TCJA provisions, the JCT estimates that the mortgage interest deduction will reduce revenues by $81.3 billion in FY2026 and $100.6 billion in FY2027. This massive revenue loss reflects the expanded deduction benefits returning to taxpayers.
After the expiration of temporary TCJA provisions, the JCT estimates that the mortgage interest deduction will reduce revenues by USD 81.3 billion in FY2026 and USD 100.6 billion in FY2027.
Sample $200k draw: remodel vs. debt-payoff
Consider a Texas homeowner drawing $200,000 in equity. If you use the cash-out funds for personal expenses unrelated to home improvement, the interest on that portion of the refinance loan is not tax-deductible.
Using a cash-out refi to renovate your house might come with a tax benefit—but using it for other things, like paying off a credit card, won't. The distinction matters significantly for your after-tax cost.
A cash-out refinance saves more in interest costs compared to a home equity loan, as shown in an example comparing costs over 10 years. But only if the proceeds qualify for the deduction.
Closing costs, rates & market trends you shouldn't ignore
Beyond tax implications, practical costs shape your decision. Total closing costs typically range from 2%-5% of your new loan amount. For a $400,000 cash-out refinance, expect $8,000 to $20,000 in closing costs.
Closing costs of 2-6% of loan principal apply to cash-out refinances, while home equity loans typically have lower upfront costs.
The home equity lending market shows robust growth potential. The home equity lending market is projected to increase by USD 48.16 billion at a CAGR of 4.7% between 2024 and 2029. This expansion reflects both rising home values and increased consumer demand.
Why lenders are pushing home-equity products in 2025
Fintech innovation drives competitive offerings in the home equity space. Curinos, a data and technology provider to the financial industry, forecasts a 15% to 20% year-over-year increase in home equity originations this year.
In a 2023 study by Fannie Mae, 73% of mortgage lenders who have adopted AI solutions cited improving operational efficiency as their primary motivator. This technological advancement translates to faster approvals and better rates for borrowers.
North America is estimated to contribute 47% to the growth of the global market during the forecast period. Texas homeowners benefit from this competitive market expansion.
Planning ahead for the TCJA sunset
Timing your home equity decision requires strategic planning. Many of the provisions included in the TCJA are set to expire at the end of 2025 unless Congress acts to extend or preserve them.
Unless Congress acts, the vast majority of Americans will see higher, more complicated taxes beginning in 2026 as major provisions from the Tax Cuts and Jobs Act of 2017 expire. But for homeowners with substantial mortgage debt, the expiration could actually improve their tax situation.
If TCJA provisions expire as scheduled, the cost of the MID could balloon to more than $100 billion by fiscal year 2027. This expanded deduction benefit returns significant tax savings to homeowners with larger mortgages.
Key takeaways for Texas homeowners
The choice between a home equity loan and cash-out refinance in Texas depends on multiple factors: your current mortgage rate, how you'll use the funds, and whether you can stomach permanent refinancing restrictions. Under current TCJA rules, both options offer similar tax benefits when proceeds improve your home. But with deduction limits reverting to pre-2018 levels in 2026, homeowners who can wait might benefit from expanded deduction opportunities.
Texas's unique regulations add complexity. The 20% equity requirement, 2% closing cost cap, and "once a cash-out, always a cash-out" rule create constraints not found elsewhere. These restrictions particularly impact cash-out refinances, potentially making home equity loans more attractive for some borrowers.
For immediate needs requiring tax-deductible financing, ensure your use qualifies under current IRS tracing rules. Document home improvements carefully. If you're considering personal use of funds, remember that interest deductibility disappears under current law but returns after 2025.
Chestnut can help you navigate these complex decisions with AI-powered mortgage comparisons that factor in both current and future tax implications. Our technology compares offers from over 100 lenders to find the most competitive rates for your specific situation. Whether you're leaning toward a cash-out refinance or exploring home equity loans, getting an instant quote takes less than two minutes and helps you understand your options without impacting your credit score.
Frequently Asked Questions
Are interest payments on home equity loans and HELOCs deductible under TCJA through 2025?
Yes, but only if the funds are used to buy, build, or substantially improve the home that secures the loan and within the current TCJA dollar limits. Interest on funds used for personal expenses (like paying off non-home debt) is not deductible under current rules.
How do IRS tracing rules affect a cash-out refinance versus a home-equity loan?
The IRS applies tracing rules to see how you used the proceeds. Only the portion used for qualified improvements to the securing property is treated as acquisition debt and may be deductible, whether you used a cash-out refinance or a home-equity loan. Keep detailed records and receipts.
What Texas-specific rules should I consider for a cash-out refinance?
Texas generally requires you to keep at least 20% equity post-transaction (80% max loan-to-value), caps certain closing costs at 2% of the loan amount (with exclusions), and applies a 'once a cash-out, always a cash-out' designation. That designation can limit flexibility and costs on future refinances of the same property.
Could waiting until 2026 increase my mortgage-interest deduction?
Possibly. If TCJA provisions expire after 2025, the mortgage interest deduction is expected to revert to pre-2018 rules: interest on up to $1,000,000 of acquisition debt plus up to $100,000 of home equity debt. Congress could extend current rules, so coordinate timing with a tax professional.
Which option typically has lower upfront costs: a cash-out refinance or a home-equity loan?
Cash-out refinances often carry higher total closing costs (commonly 2%–6% of the new loan amount), while home-equity loans tend to have lower upfront costs. In Texas, certain closing costs for equity loans are capped at 2%, which can further influence the economics by loan size.
How can Chestnut help me choose between a home-equity loan and a cash-out refi in Texas?
Chestnut’s AI compares offers from 100+ lenders to surface competitive options tailored to your goals and Texas-specific rules. You can get an instant quote in under two minutes at https://chestnutmortgage.com/instant-quote without impacting your credit, then review your choices with a specialist.
Sources
https://www.mncpa.org/publications/footnote/june-july-2024/tcja/
https://accountinginsights.org/how-does-home-equity-tax-work-for-deductions-and-limitations/
https://www.experian.com/blogs/ask-experian/cash-out-refinance-vs-home-equity-loan-which-is-better/
https://hurstlending.com/cash-out-refinance-vs-home-equity-loan/
https://www.bankrate.com/home-equity/refinance-vs-home-equity-loans/
https://taxpayer.net/budget-appropriations-tax/mortgage-interest-deduction-time-to-cut-the-cord/
https://www.rate.com/resources/cash-out-refinance-vs-home-equity-loan
https://refinance.com/articles/cash-out-refinance-vs-second-mortgage-cost-guide-2025
https://technavio.com/report/home-equity-lending-market-analysis
https://ocrolus.com/whitepapers/mortgage-underwriting-whitepaper
https://www.jpmorgan.com/insights/wealth-planning/taxes/tax-cuts-and-jobs-act-tcja
https://taxfoundation.org/research/all/federal/2025-tax-reform-options-tax-cuts-and-jobs-act