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Oct 24, 2021 | By Benie Khan
Cash Out Refinance. How Do They Work?

Cash Out Refinance. How Do They Work?

You’ve worked hard and paid your mortgage on time. Your home likely even appreciated during that time, so you know you have equity in the home, but it’s tied up in the home.

 

What if you need to tap into it but want to stay in the home? You aren’t ready to sell but need the cash you’ve invested in it thus far. It feels like a never-ending battle.

 

But, you can have your cake and eat it too with a cash-out refinance. Understanding what it is and how it works can help you decide if it’s for you.

 

What is a Cash-Out Refinance?

 

A cash-out refinance is a larger mortgage than you have now. This is because you tap into your home’s equity in addition to taking out the money needed to pay off your existing mortgage. Most lenders allow you to borrow up to 80% of the home’s value minus the amount of your current mortgage.

 

The new mortgage pays your existing mortgage off, and you receive the difference in cash. You can do what you want with the funds – there aren’t any requirements regarding how to use them.

 

How Does a Cash-Out Refinance Work?

 

A cash-out refinance works much like when you bought your home. First, you complete a loan application and request a specific loan amount. Then, if you can afford the loan and your credit score meets the minimum requirements, you’ll go through the underwriting process and close on the loan.

 

When you close, the closing agent will take the funds from the new mortgage and pay off your existing mortgage, giving you the remaining funds. You’ll receive the funds three days after the closing because you have three days to change your mind on the refinance.

 

When you take out a cash-out refinance, you affect your home’s loan-to-value ratio. For example, if your home is worth $300,000 and you had $150,000 in an outstanding mortgage, but now you took out a cash-out refinance for $225,000, your LTV would climb from 50% to 75%.

 

Most lenders allow you to borrow up to 80% of your home’s value.

 

Pros and Cons of Cash-Out Refinancing

 

Pros:

 

  • You can use your home’s equity for any purpose
  • The interest rates are typically lower than any other consumer debt option
  • You can spread the payments out over 15 to 30 years

 

Cons:

 

  • You use your home as collateral, which can be scary if you can’t afford your higher payments
  • You’ll pay closing costs again
  • It can be harder to qualify for since it’s a larger loan amount

 

Final Thoughts

 

If you need cash for home renovations, consumer debt consolidation, or any other significant expenses, a cash-out can be a great option.

 

You use your home’s equity to get the cash and then gradually pay it back over 15 to 30 years. Before accepting any cash-out refinance, make sure you look at the closing costs and the interest rate. Make sure you can afford the payment and aren’t getting in over your head and risking foreclosure.

 

 

 

 

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