Cash-out Refinance: What is, how does it work, and how to get it

So, what is a cash-out refinance loan, and how does it work? The answers have been simplified for you in this article.
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May 24, 2022
4 min read

Did you have a mortgage and are looking towards the possible options to pay it off? Or are you looking to make some home improvements but don’t have the funds? Then, here’s an opportunity for you to manage your mortgage — cash-out refinance. So, what is a cash-out refinance loan, and how does it work? The answers have been simplified for you below.

What is cash-out refinance?

Cash-out refinance is simply replacing your current mortgage with a new home loan – a bigger one. The cash-out refinance allows you to take advantage of the equity you have built up in your home to access the difference in your mortgage (your current one and the new one) in cash. And you can use this cash for any purpose. For example, you may use it for a house renovation, remodeling, consolidating high-interest debts, or even other financial plans or commitments.

How cash-out refinance works

How does cash-out refinance work? Simple. Just like any other refinance plan. Cash-out refinance simply means that you are securing a new mortgage. Howbeit, the terms, and interest rates are different. With cash-out refinance, you swap your existing mortgage with a new one for the same amount. The new loan terms usually come at a lower interest rate or for a shorter loan term. Interestingly, it could accommodate both options too.

Wondering how to calculate cash-out refinance? Here’s an example. If the current value of your home was to be $300,000 and the remaining balance on your mortgage is $100,00, your home equity, in this case, would be $200,000. Usually, lenders would allow you to retain 20% equity in your home (which is about $60,000 in this case). So, if you are speculating how much you can cash-out refinance, in this case, you would have access to borrowing about $140,000 in cash.

Now, how much does a cash-out refinance cost? There are fees charged for the cash-out refinance. An example is the appraisal fee (a kind of closing fee).

However, note that if your cash-out refinance is backed by the Department of Veteran Affairs, you may be able to borrow 100% of your equity with a VA cash-out refinance.

What to consider before opting for cash-out refinance

If you are looking for how to get a cash-out refinance, here are some important things to consider:

  • Debt-to-income ratio, or DTI: This is how you’re fairing when your monthly debt payments, plus your current mortgage, have been divided by your gross monthly income. Your DTI should be no higher than 45% before you can qualify for a cash-out refinance.
  • Home equity: Here’s how to get a cash-out refinance, you must have at least 20% equity in your mortgage before you can partake.
  • Credit score: The rule of thumb is that your credit score should help you get a better interest rate. However, with a credit score as low as 620, you could still benefit from a cash-out refinance.
  • Seasoning requirement: You have to understand that no matter how much equity you own on your mortgage, you must have owned the house for at least six months before you can qualify for a cash-out refinance. And how long does cash-out refinance take for veteran-owned houses and mortgages? VA loans also require a six-month wait. And if you have a loan financed by the Federal Housing Administration, the waiting period is about 12 months before you can partake of FHA cash-out refinance

In conclusion, you could try out cash-out refinance to get some extra cash to cater to those financial goals or house remodeling. How to do a cash-out refinance has been explained above. If you think it works for you, you should go for it.

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