Prior to the 2008 housing crisis the percentage of refinances that were get cash out using home equity was at an all-time high.
When rates are low people refinance their mortgage to take advantage of the low rates and get a lower monthly mortgage payment.
With interest rates on the rise again homeowners aren’t refinancing to get a lower rate, they’re refinancing to tap into their home equity to get cash out.
Using your home as an ATM can be a good thing, as long as that money is used to repair your home, or make improvements to increase the market value.
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What is a Cash-Out Refinance?
A cash-out refinance is when you have built up equity in your home that you access by refinancing your mortgage for more than what you owe to get cash back.
You’re able to get a new mortgage for up to 80% of the loan-to-value ratio. That’s 80% of the fair market value of the home.
You still have one monthly mortgage payment, which will increase. If the money is used to make repairs or renovations on the home can be a good investment.
Cash-out Refinance Requirements
- 620 credit score
- No late payments in the past 12 months
- 70% or lower loan-to-value ratio
- Minimum cash out amount of 10% of the market value
- Only for owner-occupied homes
- New debt-to-income ratio (DTI ratio) should not exceed 41%
Cash-out Refinance vs. Home Equity Loans
Cash-out refinancing and home equity loans are similar in that you’re using home equity to get money. However, a cash-out refi is a new mortgage that has one payment.
A home equity loan, or home equity line of credit (HELOC) is a second mortgage that is a separate loan, with a separate interest rate, and requires it’s own payment.
The qualifying guidelines for a cash-out mortgage are less strict than for home equity loans. Also the interest rate will be lower with a cash out loan.
Benefits of a Cash-Out Refinance vs Home Equity Loans
- Lower interest rate
- Longer loan repayment term is over 30 years, or the length of the mortgage
- Lower credit score requirements
- One loan with one payment vs. two loans and two payments
- Easier to qualify for
- Cash-out refinance rates are lower
Why Cash-Out Refinancing can be a Bad Idea
Some real estate and financial experts believe that the housing crisis was due to cash-out refinances and home equity loans, and not to home purchases. They believe borrowers used the cash to make unnecessary large purchases like boats, new cars, and vacations.
With homeowners blowing their money and taking on more and more debt and higher mortgage payments they were unable to continue making the payments, leading to foreclosure.
We need to make sure that the current cash-out refinancing surge we avoid the same issues that lead to the crisis last time.
What to Use Money from a Cash-out Refinance For
- Make needed home repairs
- Renovations or improvements to improve the property value
- New appliances or heating/air equipment