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Cash-Out Refinancing: How It Works & Is It Worth it?

Donny Gamble
February 14, 2022
Cash-Out Refinancing
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As you pay off your mortgage each and every month, your home equity grows. In short, home equity is measured by the difference between the fair market value of your home right now, and the outstanding balance on your mortgage.

If you’re in an up-and-coming area and you home value raises by a drastic 30% or higher, and it’s time to renovate, you could stand to take a cash-out refinance on your home to handle numerous things in your home (or for personal use; whatever you want) and still barely pay above what you’re paying for your mortgage now.

There are market stipulations and things to consider, but depending on how the housing market is doing, a cash-out refinance could be an excellent opportunity while barely cranking up the risk factor beyond what it is right now.

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Quick Facts
Closing Costs: 2% to 6% of the mortgage
Min. Credit Score: 620
Refi Rates: Quotes from multiple lenders

Pros & Cons of Cash-Out Refinancing

Every financial product is going to have its upsides and its downsides. The trick is that institutions need to make sure you stand enough to gain, if you’re smart, and that they stand to gain much more if you default or don’t understand the terms properly.

Let’s avoid that from happening to you.

Pros

  • Huge Loan Amounts: Because your home’s equity acts as a bargaining chip or collateral, they don’t need to do a credit check to give you a loan. You can basically borrow up until X amount of your home equity, and do whatever you want with the income.
  • Tax Breaks and Investments: If it’s time to fix up your home, a cash-out refinance option is one of the solutions you can turn to. The goal is to reinvest the money from a cash-out refinance so that you can see returns in the future, and if the housing market you live in is going up and you’re not against selling in the future, this could be a great short-term investment for serious gain. Fixing up your home and selling above market value when the area improves (provided that you can see markers for the neighborhood getting more expensive) can cause you to gain six figures in some instances, more than outweighing the cost of the cash-out refinance in the first place. You just have to be smart about it.
  • Extend Repayment: This is a tricky one, because abusing it can be a con, but you could stretch out your repayment program to another 30 years, and that could lower monthly costs. If you’re someone who enjoys flipping homes or you’re a real estate investor, this could be a great way to increase your real estate portfolio, albeit with some volatility on the line that you can’t ignore.
  • Lower Interest Rates (Kind of): Because your home is the loan collateral and secures it, lenders give lower interest rates than what many are paying for their mortgages. This is more of a door prize than anything else, because if you’re using a cash-out loan responsibly, then you’ll be able to pay it back fast enough that the loan interest won’t be a big deal. Still, if it takes longer to pay back, the lesser interest rate is still something you can enjoy

Cons

  • You Could Lose the House: It depends on what you do with the money and how your monthly costs either increase or decrease, but you’re putting your home back into the familiar territory of being foreclosed on. Hopefully that doesn’t happen, but it’s still a possibility that you can’t ignore.
  • Higher Interest Costs: Right, we mentioned lower interest costs, right? That’s because these loan companies know that you may incur a higher lifetime interest cost. You can find the authorization tables on your existing mortgage to see how it’s going to affect you, but keep in mind these will differ depending on the institution. If yours are too high, you might consider going with a second mortgage instead of a cash-out refinance instead.
  • Closing Costs: Yes, you’re reintroduced to closing costs. You could end up paying thousands in closing costs on this new loan, so you have to factor that into the money that you get out of it so you don’t end up making a mistake. Especially if you’re pulling this money out to renovate and sell the home, you don’t want to be several thousand dollars shy of finishing the bathroom and messing up your entire financial timeline.

There are plenty of pros and cons, the list goes on beyond just what you see here. You have read the fine print and be familiar enough with your own finances, and finance in general, before you even consider calling for a quote on a cash-out refinance.

It’s an option, but one that can stab you in the back very easily if you aren’t careful and committed.

Is Cash-Out Refinancing a Good Idea?

Is cash-out financing the first method you should turn to for money if you own a home? No, it’s not, but especially in the event that you lose your job and need money to maintain your mortgage, a cash-out refinance is an option on the table that you can seriously benefit from.

In the event that you want to increase your home’s value, you can use a cash-out refinance to renovate your home and increase its worth. Then sell that home, move somewhere cheaper, and sit on the difference.

It’s situational and not for everyone, but a cash-out refinance isn’t a terrible idea. Just make sure your need for a cash-out refinance meets the criteria of the circumstances that you find yourself in.

There are always predatory practices in finance that will try to get the most money out of you possible, but in the current market (January 2022 at time of writing), the homeowner controls the power in a cash-out refinance. Just play your cards right.

Cash-Out Refinancing FAQ's

How much money do you get from a cash-out refinance?

You can get around 80% of your total home equity in cash, so on a $300,000 home, you can get around $240,000 in cash if you own your home outright.

However, these come with their own interest fees and payback schedules, so you should only go for the highest percentage of equity if you were previously able to pay off your home quickly, and you’re financially stable.

Typically, cash-out refinances are done for no more than 40% of the equity value to alleviate risk, and keep monthly payments low and manageable regardless of income level.

Is it bad to do a cash-out refinance?

It depends on the market more than your personal situation. In many instances, mortgage rates are low, and cash-out refinance rates are only slightly above those rates, so you’re able to access cash from your home’s equity with relatively little risk.

Before you sign the contract on a cash-out refinance though, you should be 100% sure that you need the money and can’t make accommodations otherwise, and pay special attention to the term length and just how much you’ll have to pay back.

How much equity do I need for a cash-out refinance?

You need at least 20% equity in your home to even begin a cash-out refinance. As we mentioned earlier, you can do a rough 80% of your equity in cash, but it’s something you need to take very seriously and be conservative with if you only own a small percentage of your home’s equity at this time.

20% is the bottom-of-the-barrel approach, but you should also inspect your mortgage agreement and see if there’s any special mention of equity. This isn’t common, but may be found in FHA loans from specific institutions.

Credible

Credible allows you to compare rates from multiple lenders with no impact to your credit score. Refinance your mortgage with peace of mind.

About the author 

Donny Gamble

I’m Donny. I’m a world traveler, investor, entrepreneur, and online marketing aficionado who has a big appetite to compete and disrupt big markets. I thrive on being able to create things that impact change, difficult challenges, and being able to add value in negative situations.

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