Cash-Out Refinancing: Covering the Pros and Cons
It is no surprise that the sun and beautiful beaches are the common benefits of living in the sunshine state. But did you know that being a homeowner in Florida has possibly made you wealthier?
According to the latest Freddie Mac home price index report, Florida homeowners’ home values have increased by over 81% within five years. So if you are wondering if it is worth doing a cash-out refinance? It just might be!
But before you tap into your home equity, it’s essential to learn about this financial decision and how refinancing works before taking the plunge.
There are many advantages to refinancing your home mortgage, but there are also some negatives. Keep reading, “Cash Out Refinancing: Pros and Cons Explained” to better understand your refinance opportunities.
Financial Considerations of Cash-Out Refinancing
The decision to do a cash-out refinance should not be entered into lightly. You must carefully assess your current financial situation. It is important to remember that a cash-out refinance is effectively taking out a new mortgage.
In this instance, you will no longer have your original mortgage, but a new mortgage and interest rate. There will be an increase in the total loan amount, and a new monthly payment will be required.
How long it takes to refinance your house can depend on how prepared you are. Before beginning the application process for a cash-out refinance, make sure you consider the following:
- Credit score:
- Debt-to-income ratio (DTI)
Lenders generally require a minimum 620 credit score for conventional and VA loans. However, FHA loans require a 580 credit score. Keep in mind that credit score requirements may vary depending on your lender.
In most cases, you should have a Debt-to-Income ratio (DTI) below 40%. It is important to note that DTI requirements vary by lender. Some lenders will allow a cash-out refinance with up to a 50% DTI.
Pros Of Cash-Out Refinancing
Here are some of the pros of taking out a cash-out refinance to help upgrade your personal finances.
Access To Cash
A cash-out refinance is a great way to get a large amount of money you can use for other purposes. Lenders typically require a loan-to-value ratio of 80% or less for a cash-out refinance.
This means that you will need to have at least 20% equity in your home in order to qualify. If you have built up significant equity in your home, a cash-out refinance can be a great way to access the cash you need.
Boost The Value Of Your Home
A cash-out refinance allows you access to your home equity. You can add significant value to your home with a kitchen renovation or adding a new bathroom. These home improvements can boost the value of your home.
Additionally, if you use the proceeds of your cash-out refinance for home improvements, you could benefit from a tax deduction.
Lower Interest Rates
Refinancing your mortgage may save you money with a new lower interest rate. A fixed rate with a 30-year mortgage provides a stable monthly payment with no surprises. Personal loans and credit cards have variable interest rates.
Long Repayment Period
Your repayment term for a refinanced mortgage is up to 30 years. In contrast, personal loans usually last between 12 and 60 months. Some lenders may offer seven years for personal loan repayments.
A home improvement or capital investment, such as upgrading windows to energy-efficient ones or adding a room, is tax deductible. These tax deductions are available and can be beneficial in the future.
Mortgage Debt Isn’t Bad Debt
Mortgage debt has historically been considered “good debt” for many reasons. A mortgage is often used to build wealth with the help of home equity, fund retirement accounts, and start businesses.
Getting rid of credit card debt is always a good idea and a cash-out refinance can cross that off your list. A credit card default will affect your credit score and credit reputation. A defaulted mortgage will lead to foreclosure.
Improved Credit Score
If you decide to pay down high-interest debt such as personal loans and credit cards, your credit utilization will drop. Your credit score will improve because of this decrease in credit utilization.
Cons Of Cash-Out Refinancing
There are a number of benefits of a cash-out refinance, such as getting a lump sum of your home equity. But there are some cons, as well.
Your monthly payment will increase compared to your current mortgage. Be aware that the amount of money you will receive will increase your debt. Before you take on more debt, weigh the risks.
Increased Interest Costs
A cash-out refinance may be beneficial if it provides a lower interest rate or a comfortable increase in your monthly payment. Consider all your options if a higher interest rate will not help your financial situation.
Danger Of Foreclosure
According to Atton, a property and real estate data company, foreclosures in Florida rose 124.5% in the first six months of 2022. By June 2022, 17,624 Floridians lost their homes because of foreclosure.
As a homeowner, you deserve to tap into your equity for home improvements and pursue your ideal financial opportunities. But consider all your options to avoid foreclosure.
It’s common for homeowners to ask, “How much does it cost to refinance?” It’s not unusual for the closing costs to be between 2% and 6% of your loan amount. Closing costs include origination fees, credit check fees, and appraisal costs.
You Need A Lot Of Equity
A minimum of 20% of your home’s equity must be available to receive a cash-out refinance. The loan-to-value (LTV) is usually no higher than 80%.
Unexpected Tax Liabilities
Check with your accountant or tax professional about potential tax liabilities. However, the IRS does not consider a cash-out refinance as income but as a loan.
Is It Worth Doing A Cash Out Refinance?
Reviewing your current mortgage and financial goals is a priority. Take some time to research the local real estate market to estimate the value of your home. Use your research to determine if it’s worth refinancing your property.
Cash Out Refinancing Vs No Cash Out
Cash-out refinancing allows you to take out a new loan for more than you owe on your current mortgage and receive the difference in cash.
Typically, a no-cash-out refinance focuses on lowering your current mortgage rate. No cash-out refinance also offers the opportunity to eliminate private mortgage insurance (PMI).
Alternatives To Cash-Out Refinance
If a lower interest rate is not your goal and increasing your mortgage balance is not your intent, there are alternatives.
When you take out a second mortgage while maintaining your first mortgage, you’re taking out a line of credit against your property. This is a home equity line of credit (HELOC).
Unlike a 30-year fixed mortgage, This type of loan has a variable rate that will fluctuate with the current market.
Another option is a home equity loan. A home equity loan has a fixed rate that is paid out in a lump sum. A home equity loan and a home equity line of credit require a higher interest rate compared to a cash-out refinance.
If you are 62 years old or older, you can consider a reverse mortgage. A reverse mortgage requires no monthly payment. However, it will need to be paid back or the home sold for repayment after leaving the home.
Contact Us To Discuss Your Options
Now that the cash-out refinancing: pros and cons have been explained, it’s time to weigh your options.
That’s where we come in. We can help you determine if a cash-out refinance is right for you and guide you through the process. There will be no questions left unanswered. So don’t hesitate to ask!