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CASH-OUT REFINANCE
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Cash-Out Refinance Guide
What is a cash-out refinance?
A cash-out refinance replaces your existing home loan with a new, larger mortgage. The difference between your new loan amount and your old one is returned to you as cash-back at closing.
Cash-out refinancing lets you tap the equity in your home and use it for any purpose you like. And it’s a great way to access a large sum of money at very low interest rates.
How a cash-out refinance works
A cash-out refinance lets you access your home equity and refinance your mortgage at the same time.
When you use a cash-out refinance, you take out a new loan that’s bigger than your existing mortgage.
The new loan amount is used to pay off your current home loan, and the remainder is returned to you as cash-back.
A few important notes on cash-out refinancing:
- Cash-out refinance rates are slightly higher than traditional mortgage refinance rates
- Your refinance rate depends on your credit profile and how much cash you take out
- You can typically cash out up to 80% of your home equity
- Your new loan will be larger than your old one, so you’ll pay more in mortgage interest in the long run
- Since mortgage rates tend to be lower than personal loan or credit card rates, cash-out refinancing can be a better way to finance larger expenses
There are no rules about how you can or can’t use the funds from a cash-out refinance.
These additional funds can be used for many purposes, including home improvements, consolidating debt, and other consumer needs or wants.
But because the loan is secured by your home, you typically want to spend your funds on something with a good return on investment — like home renovations or consolidating higher-interest debt.
Cash-out refinance example
A cash-out refinance works by taking out a new, larger mortgage loan to pay off your existing loan.
The money remaining after paying off your original mortgage is paid to you in the form of a check at closing. This is the “cash-out” component.
Here’s an example of how a cash-out refinance works:
- Home value: $350,000
- Current mortgage balance: $250,000
- Refinanced loan balance: $280,000
- Cash-out at closing: $30,000 (Minus Closing Costs)
In the example above, the new loan first has to be used to pay off the existing mortgage.
The remainder of the loan amount — $30,000 — is the sum you’re cashing out.
You’ll also have to pay closing costs on a cash-out refinance, which are usually 3-5% of the loan amount.
The good news is, when you refinance, it’s possible to roll closing costs into your loan balance so you don’t have to pay them upfront.
But rolling closing costs into your loan does mean you’ll pay interest on them over time — so consider the long-term costs before deciding to do so.
How much money can you get with a cash-out refi?
For a conventional cash-out refinance, you can take out a new loan for up to 80% of the value of your home.
Lenders refer to this percentage as your “loan-to-value ratio” or LTV.
Remember, you have to subtract the amount you currently owe on your mortgage to calculate the amount you can withdraw as cash.
Here’s an example of how a a conventional cash-out refinance works:
- Home value: $400,000
- Maximum conventional refinance loan amount (80% of home value): $320,000
- Current mortgage balance: $250,000
- Maximum cash-out: $70,000
In the example above, the homeowner starts out with $150,000 in home equity. (Because the home is worth $400,000 and the existing loan balance is $250,000.)
But, since the homeowner must leave 20% of the home’s equity untouched, the maximum amount this borrower could withdraw is $70,000.
If this homeowner already had a second mortgage using the home’s equity — a home equity line of credit, for example — the lender would also subtract that loan’s amount from the available cash-out.
Lenders limit the amount of equity you can withdraw because this protects them from losses in case of default.