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Cash Out Refinance Guide

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What is Cash-Out Refinancing?

A cash-out refinance is like a money wizard. It turns your house into a piggy bank! It’s a kind of loan that lets you take the money you’ve built up in your home, known as equity, and puts it right into your pocket. Equity is the difference between how much your home is worth and how much you still owe on your mortgage.

Think about it like this:

  • Imagine your home is worth $300,000
  • You still owe $150,000 on your mortgage
  • So, your equity is $150,000

Now let’s look at the cash-out refinance magic:

  • You get a new loan for more than you owe (let’s say, $240,000)
  • The leftover money, after you pay off the original mortgage ($90,000), is yours to do whatever you want with it

Just remember to make wise choices with this money since you’ll be increasing the amount you owe on your house.

How Much Can You Get with Cash-Out Refinancing?

So you’re probably wondering—how much moolah can you get with cash-out refinancing? Good question, and the answer depends on your home’s equity and your lender’s rules.

Most times, lenders let you borrow up to 80% of your home’s value. In some cases, if you’ve been good with your credit, they might even let you borrow more.

But remember, the higher you borrow, the more you’ll have to pay back. It’s critical to think about how much dough you’re comfortable with getting from cash-out refinance.

 How Does a Cash-Out Refinance Work?

A cash-out refinance may seem complicated, but look at it this way — it’s like trading in your old car for a new one and getting some cash in the process. Here are the steps:

  • Check the Requirements: Just as you’d need to meet certain conditions to get a new car, you need to fulfil specific criteria to qualify for a cash-out refinance. The requirements are:
    • Credit Score: A good score, like 580 or more, shows lenders you’re a responsible borrower. It’s akin to having a clean driving record when trading in for a new car.
    • Debt-to-Income Ratio (DTI): This should ideally be below 50%. Lenders look at this to ensure your income is sufficient to cover your outstanding debts. Think of it as making sure you have enough fuel for your trip before you hit the road.
    • Home Equity: This is how much of your home you own outright, without any mortgage. The more equities you have, the more money you could possibly get from your refinance. It’s just like the bigger the down payment, the less you’d need to borrow for your new car.
  • Figure Out How Much Money You Need:
    • Just as you would decide how much money you could put down for a new car — you need to determine how much cash you want from your refinance. Keep in mind, the more you borrow, the more you’ll need to pay back.
  • Talk to Your Lender:
    • Once you’ve decided how much money you need, it’s time to discuss your plans with your lender. They can guide you through the application process and help you understand what comes next.

Cash-Out Refinance Requirements

Every lender has specific requirements you need to meet before you can proceed with a cash-out refinance. Here they are:

  • Good Credit Score: Lenders typically require a good credit score — think of it as the hygiene factor. A credit score of 580 and above often ticks this box, indicating to lenders that you’re likely to repay the loan on time.
  • Healthy Debt-to-Income Ratio: Just like your body needs a good balance of nutrients, your finances need a good balance between debt and income. If more than half of your income is going into paying debts (i.e., a DTI above 50%), lenders may see this as a red flag.
  • Unclouded Home Equity: Equity is the portion of your home you genuinely own, and not the bank. The more home equity you have, the more cash you can take out during refinance. It’s like having more collateral to secure your loan.
  • Met Seasoning Requirement: This sounds like an ingredient in a cooking recipe, but it’s actually about how long you’ve held your current mortgage. Different lenders may have different requirements, but the seasoned seasoning of one year usually works for many.

Different Types of Cash-Out Refinances

Selecting a cash-out refinance product can be like shopping for the right pair of shoes – you need to find the one that fits your unique needs perfectly. There are several types of cash-out refinances to consider:

  • FHA Cash-Out Refinance: This loan is backed by the Federal Housing Administration (FHA) and lets you borrow up to 80% of your home’s value. It can be easier to qualify for an FHA loan, as they have flexible credit and income requirements.
  • VA Cash-Out Refinance: Eligible veterans, service members, and their spouses can opt for this mortgage refinance type. It’s backed by the Department of Veterans Affairs, allowing up to 100% refinance of a home’s value.
  • USDA Cash-Out Refinance: This type of refinance is for homes in eligible rural areas and small towns. It’s backed by the US Department of Agriculture and can let you borrow up to 100% of the home’s appraised value.
  • Conventional Cash-Out Refinance: This type, also known as a conforming cash-out refinance, isn’t backed by the government. Lenders usually let you borrow up to 80% of your home’s value in your loan amount.

Pros and Cons of Cash-Out Refinance

Like anything in life, a cash-out refinance has its positives and negatives.

  • Pros of Cash-Out Refinance:
    • Access to Cash: Through cash-out refinance, you can directly tap into your home’s built-up value. You can use this to finance major expenses such as home renovations, education costs, or even starting a small business.
    • Consolidation of Debts: A cash-out refinance might help you consolidate high-interest debts into a single payment with a lower rate. By switching to a single, manageable payment, you could end up saving a substantial amount in the long run.
    • Potential Lower Interest Rates: If interest rates have fallen since you first got your mortgage, a cash-out refinance may offer you the opportunity to reduce your home loan’s rate.
  • Cons of Cash-Out Refinance:
    • Increased Mortgage Debt: With a cash-out refinance, you’ll be borrowing more against your home, which means longer-term mortgage debt and more to repay over time.
    • Risk of Foreclosure: With the newly increased debt and possible higher payments, if you find yourself unable to manage the payments, there’s a risk of foreclosure.
    • Closing Costs: A cash-out refinance incurs closing costs that could amount to 2% – 5% of the loan. This could translate to a hefty fee, depending on the size of your loan.

Alternatives to Cash-Out Refinance

If a cash-out refinance doesn’t seem like the perfect fit for you, don’t worry. There are alternatives:

  • Home Equity Loan: This is a second loan on your home. It lets you borrow against the value of your house. A home equity loan provides a lump sum of cash upfront, and you pay the loan off over a fixed term at a fixed interest rate.
  • Home Equity Line of Credit (HELOC): A HELOC provides a line of credit from which you can borrow for a specified time, usually 10 years. A HELOC can be useful when you’re uncertain about the total costs of a project, like home remodeling.

Determining If a Cash-Out Refinance is Right for You

Deciding whether to go for a cash-out refinance is a big decision, and it can be helpful to ask yourself some probing questions. 

Much like choosing the right tool from your toolbox for a specific task, a cash-out refinance is ideally suited to certain scenarios.

  • Do you have high-interest debt from credit cards or personal loans that you’re finding hard to clear? 
  • Do you have major expenses coming up, like a child’s college tuition or a kitchen remodel, and need a boost to your budget?
  •  Does the idea of potentially reducing your mortgage interest rate while getting the extra cash benefit you? If yes, a cash-out refinance might be a good tool from your financial toolbox.

Conversely, if you’re close to retiring and wish to clear all debts, increasing the mortgage debt with a cash-out refinance might not make sense. Or, if the market rates have increased from the time you got your original mortgage, you might end up paying more interest overall.

Remember, it’s not just about fulfilling requirements but also considering the impact on your future financial health. It’s crucial to consult with a financial advisor or similar professional before making such significant decisions.

Cash Out Refinance FAQ’s

  1. Is refinancing with cash out a good idea?
    Refinancing with cash out can be a good idea if you need significant cash for large expenses like home renovations or to consolidate high-interest debts. It’s also beneficial if you can secure a lower interest rate than your current mortgage. However, it increases your mortgage debt, which could be a disadvantage if you’re planning to retire soon or have difficulty making payments.
  2. How much money do you get from a cash-out refinance?
    The amount you can get from a cash-out refinance primarily depends on the equity in your home and your lender’s policies, but it’s generally up to 80% of your home’s value.
  3. How is a cash-out refinance paid back?
    You repay a cash-out refinance just like your original mortgage: in monthly payments over a set term. These payments include both the principal and the interest.
  4. Does cash-out refinancing hurt your credit?
    Applying for a cash-out refinance could cause a temporary dip in your credit score due to the lender’s credit check. However, if the refinance allows you to manage your debt better, it could improve your credit over the long run.
  5. Do you lose equity in a cash-out refinance?
    Yes, in a cash-out refinance, you essentially borrow against your home equity. While you get cash upfront, the amount gets added to your mortgage debt, thus reducing your equity.
  6. What is the downside of a cash-out refinance?
    The downside of a cash-out refinance includes higher mortgage debt, potential for higher interest if rates have gone up, and risk of foreclosure if you can’t manage the new, larger mortgage payments.
  7. How much taxes do you pay on a cash-out refinance?
    In most cases, the cash you receive from a cash-out refinance isn’t taxable. However, you could face tax implications if you don’t use the cash to improve your home or if you don’t pay off the mortgage before selling the house. It’s best to consult a tax advisor.
  8. How can I get equity out of my house without refinancing?
    If you wish to tap your home’s equity without refinancing, consider a home equity loan or a Home Equity Line of Credit (HELOC).
  9. Can you sell after a cash-out refinance?
    Yes, you can sell your home after a cash-out refinance. However, you’ll need to use the sales proceeds to pay off the refinance loan first.
  10. Does my credit score matter when applying for a cash-out refinance?
    Yes, your credit score is an essential factor. In general, a good credit score (namely, 580 or above) would favorably influence your cash-out refinance application.
  11. Will I need to get an appraisal for a cash-out refinance?
    For most cash-out refinance applications, yes, an appraisal is required. The lender needs to know the current market value of your house to determine the loan amount.
  12. How will my monthly mortgage payment change after cash-out refinancing?
    Your new monthly mortgage payment will depend on several factors, including how much cash you take out, the new loan terms, and whether the interest rate is higher or lower than your existing rate.

About The Author

Channing Moore

Channing is the owner of Bayou Mortgage. He is passionate about empowering people through education and training to own a home. In his spare time you can catch him at church, reading a book or working on his latest project.

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