Property owners who wish to use their equity to obtain a low-interest rate loan can sometimes do so in a cash-out refinance. This is a particular type of mortgage loan that replaces an existing loan. It is designed for property owners who have a home worth significantly more than what they owe on it. For some, it presents an opportunity to reduce interest rates and use funds to achieve a variety of other goals.
How does a cash-out refinance work?
Individuals need to have equity to use a cash-out refinance loan. Equity is the value of the home not currently under a mortgage. For example, a homeowner with a property worth $300,000 and who owe just $225,000 on it, have as much as $75,000 worth of equity.
Because home loans are secured by the value of the property, lenders may be willing to provide a loan on that $75,000. However, instead of just providing a loan for this amount, the lender refinances the existing mortgage to include the new amount.
In this example, a borrower may wish to borrow $50,000 worth of that equity. A new mortgage pays off the existing $225,000 and provides cash to the borrower of $50,000. The homeowner now has a single loan to repay with an existing balance of $275,000.
Most of the time, lenders will require the borrower to have at least 20 percent in equity to access these types of loans. Terms differ for each lender.
What are cash out refinance interest rates?
One of the key concerns for those considering these refinance offers is interest rates. Cash out refinance rates can be affordable. Because this is a secured loan, the value of the loan is backed by the property itself. As a result, there is less risk to the lender. The lender can offer the borrower a lower, competitive interest rate on the new loan. This differs from a personal loan, one that is not backed by any asset. These loans tend to be much more expensive.
However, cash-out refinance rates differ for a variety of factors. Borrowers will need to compare options carefully to determine which is right for their individual needs. Some factors contributing to interest rates include:
- The credit score and credit history of the borrower
- The amount of money borrowed
- The lender’s current offers and discounts
- Available programs to reduce interest rates
- The type of loans, such as a fixed rate or adjustable rate loan
How to obtain a cash out mortgage
Many lenders offer a cash-out refinance mortgage. In most cases, this term applies to any type of refinancing in which the lender provides a new loan to replace the existing one. But, there are various aspects to consider before making the decision to refinance.
Reasons to refinance
Homeowners should consider their reasons for using a cash-out refinance mortgage. Because this type of loan is one the property owner is taking out on their home, it can pose some risk to the owner. If the borrower cannot make payments on the loan, the lender can force the sale of the property, which could mean the borrower loses the home. For this reason, anyone obtaining these loans should make sure they are worthwhile.
Some key benefits of using a cash-out refinance include:
- Using the funds to update or renovate the home either to add value or to improve its safety
- Using the loan to pay for college expenses
- Borrowing the funds to handle large expenses, such as a down payment on another property
Many people use cash-out refinances to help them with debt. This is an option and is commonly used. However, it is important to consider risk. By using a home loan to pay off unsecured debt, the lender can foreclose if payment is missed. This is much harder to do with unsecured loans.
Nevertheless, if the property owner is confident they can make payments, refinancing with a cash-out loan to pay down debt can help to reduce overall costs through a lower interest rate and it may even help to boost credit scores.
A cash-out refinance investment property opportunity exists as well. It may be possible to obtain cash out of an investment property to use to modernize, update, or repair the property. Borrowers who wish to pursue a cash-out refinance investment property loan should carefully consider the options through specialized lenders.
Making the decision to use a cash-out refinance is a good one for many reasons. However, borrowers need to consider all the factors in the process. This includes their current creditworthiness, available interest rates, and the home’s current value. With the flexibility to use these loans for just about any need, consumers have plenty of reasons to consider them when interest rates are low.