what is a cash out refinance

What is a Cash-Out Refinance?

A cash-out refinance may help homeowners in a couple of ways. If you have a rate higher than what the market offers now, you can lower your interest rate. You can also use it to turn your home equity into cash.

Home equity is the difference between your home’s value and your outstanding mortgage. It’s your investment in the home and the money you’d walk away with if you sold the home today.

A cash-out refinance is a first mortgage – you refinance your existing mortgage taking out a larger loan to cover your financial needs or just to have access to the cash accumulated in your home.

Here’s what you must know about a cash-out refinance.

How the Cash-Out Refinance Works

The cash-out refinance is simple. You apply for a new loan, usually for a loan amount higher than you currently have. To get approved, you must provide documentation just like you did when you bought the home. 

This includes:

  • Paystubs/W-2s
  • Tax returns if applicable
  • Asset statements
  • Consent to pull your credit
  • Proof of employment
  • A new appraisal

The appraisal is the key factor in the cash-out refinance. Most loan programs allow you to borrow up to 80% of the home’s value with a cash-out refi, so the appraisal determines how much you can borrow.

Types of Cash-Out Refinances

Most loan programs today offer a cash-out option making it easy to tap into your home’s equity. Here are the top options:

  • Conventional loans – This is your ‘typical’ mortgage and is for good credit borrowers. You’ll need at least a 620 credit score (sometimes higher) and can borrow up to 80% of the home’s value. Your debt-to-income ratio plays an important role too – keeping it as close to 36% as possible will increase your chances of approval.
  • FHA loans – Just like purchase FHA loans, cash-out refis have flexible guidelines. With just a 600 credit score and DTI up to 43%, you can tap into up to 80% of your home’s value, receiving the difference in cash. You will pay the FHA upfront mortgage insurance fee and annual insurance on the higher amount, so keep that in mind.
  • VA loans – If you’re a military veteran you can use the VA loan program to access your home’s equity. Veterans have more flexibility borrowing as much as 90 – 100% of the home’s value. Like the purchase VA loan, the guidelines are flexible and the fees low, but veterans do pay a higher upfront funding fee for the cash-out refinance.

Should you use the Cash-Out Refinance?

Before you use the cash-out refinance option think about why you want it. Do you need the cash for a large expense, home improvements, or debt consolidation? Will you stay in the home for a while? Is your credit good enough to secure the best interest rates?

Use your home’s equity wisely and you’ll benefit financially. Your home is your largest investment and can be a great tool to reduce debt, help you in retirement, or help you improve your home’s value. 

Written By The Mortgage Loan Center.