Cash Out Refinancing for Beginners
By refinancing their current mortgage and receiving a cash payment, homeowners can use the equity they’ve built up in their property by using the cash-out refinancing financial strategy. This method is frequently employed to get funds for a variety of objectives, including home renovations, debt relief, or investment opportunities.
What is a Cash-Out Refinance?
In a cash-out refinance, you receive cash in exchange for taking on a larger mortgage. This form of refinance makes use of the equity you’ve accrued over time. With a cash out refinance, you effectively borrow more money than your mortgage balance and keep the difference in your pocket.
Cash out refinances are different from traditional home equity lines of credit (HELOC). HELOCs have a revolving line of credit that allows you to borrow against your home equity as needed, similar to a credit card, with the flexibility to draw funds multiple times and repay them over time.
What Can Your Home Equity Be Used For?
This type of lending can be beneficial for many different purposes. Here are some of the most common uses for cash out refinances.
- Investment purposes: Cash-out refinances give homeowners access to funds to help them invest in new real estate, complete home improvements or save for retirement.
- Consolidating high-interest debt: Refinance rates are typically lower than those for other types of debt, such as credit cards. Money from a cash-out refinance can be used to repay these debts with just one, cheaper monthly payment for the loan in its place.
- College tuition for a child: School tuition is expensive! Using home equity to pay for college may make sense if the refinance interest rate is lower than the interest rate on a student loan.
How Do Cash-Out Refinances Work?
Cash out refinances pay off your current primary mortgage unlike a HELOC (home equity line of credit). As a result, you may receive a new mortgage loan with terms that are different from those of your initial loan, such as a different loan type, a different interest rate, or a longer or shorter repayment period. A new payment amortization plan will be created as a result, showing the monthly payments you must make to pay off the mortgage principal and interest by the loan’s end.
When you conclude your refinance loan, a cash-out refinance pays you a flat payment. Any residual funds are paid to you once your existing mortgage(s), closing costs, and any prepaid expenses (such as homeowners insurance or real estate taxes) have been paid in full.
How Much Money Can I Get from Home Equity?
While lenders normally permit homebuyers to borrow up to 80% of the value of their house, the maximum might change depending on your credit score, the mortgage type, and the type of property that will be used as collateral for the loan (such as a single-family, duplex, three-, or four-unit property). The Federal Housing Administration, or FHA,-insured lenders who offer loans occasionally provide an FHA cash-out refinance that enables you to borrow up to 85% of the value of your house. As previously mentioned, VA-guaranteed cash-out refinance loans are available for up to 100% of the home’s value.
Cash Out Refinance Requirements
Depending on the lender and the particular loan program, cash-out refinance requirements can change. These are some of the most common requirements for cash-out refinance mortgages.
Sufficient house Equity: In order to be eligible for a cash-out refinance, lenders typically need that you have a certain level of equity in your house. Although the precise number can vary, lenders frequently demand at least 20% equity, even if some programs might allow for lower equity levels.
Creditworthiness: Your credit score and credit history will be examined by lenders to determine your creditworthiness. Although precise credit score requirements can change, in general, having a higher credit score increases your chances of being approved for a cash-out refinance and getting better loan conditions. If you are working with a hard money lender, your credit score will not make as big of an impact on your loan application. Hard money lenders are an excellent option for individuals with bad credit or no credit.
Debt-to-Income Ratio (DTI): Lenders take into account your DTI, which is the proportion of your monthly income that is used to pay down debt. An improved financial situation is indicated by a lower DTI, and lenders often favor borrowers whose DTI is below a certain level, frequently 43% or lower.
Loan-to-Value (LTV) Ratio Limits: For cash-out refinances, lenders impose maximum LTV ratios that specify the maximum amount of your home’s value that you can borrow. LTV ratios of up to 80% are frequently permitted by lenders, which means you can borrow up to 80% of the appraised value of your house, less the balance of any outstanding mortgages.
Property Appraisal: In order to ascertain the current market value of your property, an appraisal is typically necessary. The evaluated value aids in determining the largest loan amount that you can qualify for based on the lender’s allowable LTV ratio.
Income and Employment Verification: To determine your capacity to repay the loan, lenders often demand confirmation of your income and stable employment. Providing recent pay stubs, tax records, and other pertinent paperwork may be required.
Closing Expenses and Fees: Cash-out refinances have closing expenses and fees, just like any other mortgage transaction. Origination fees, appraisal fees, title search fees, and other costs are examples of these. When determining if a cash-out refinance is financially feasible, it’s critical to take these charges into account.
Pros & Cons of Cash Out Refinancing
Every loan has its advantages and disadvantages. Cash-out refinances are no different. Here are some of the biggest advantages and disadvantages of cash-out refinancing.
Pros of Cashing Out:
Large loans: This is an easy way to obtain a large amount of cash quickly since the equity in your home can amount to tens (or hundreds) of thousands of dollars.
Relatively low rates: When your home is securing the loan, you can take advantage of relatively low-interest rates (compared to credit cards and personal loans).
Potential tax benefits: If funds from your cash-out refinance are used for “substantial improvements” to your home, you may be eligible for a tax break that effectively reduces your loan cost.
Long repayment period: Replacing your existing mortgage with a new one stretches out your mortgage payments.
Cons of Cashing Out:
Interest costs: Cash outs will increase your lifetime interest costs (borrowing more also does that) that you pay on your home. The way around this is to use a second mortgage instead (HELOC).
Risk of foreclosure: If you’re unable to repay your loan, you could lose your home. Unsecured loans are far less risky.
Closing costs: You always pay closing costs whether you roll them into your loan balance, write a check, or take a higher rate. However, cash-out mortgage loans require a much higher upfront closing cost.
Is a Cash Out Refinance Right for You?
Many homeowners find cash-out refinancing to be a smart way to tap into their home equity. The cost of new mortgages in general has been increasing. Since your home serves as the collateral for a cash-out refinance, lenders assume very little risk and can afford to keep refinance rates on a new mortgage low. Cash-out refinancing is one of the least expensive solutions to cover significant life expenses.
Use a Hard Money Lender for Your Cash Out Refinance
Traditional banks and lenders make obtaining a cash-out refinance loan in Houston a tedious process, involving excessive documentation, bank statements, and headaches. Hard cash lenders streamline the process, making it faster and more efficient for you.
Contact LJC Financial to find out more about cash-out refinancing and if it is the right choice for your financial needs. Our experienced team provides cash-out refinancing loans in Houston and nearby areas of Texas.