Is a Cash-Out Refinance Right for You?

Is A Cash-Out Refinance Right For You?

 

Meet James. James is a homeowner that has lived in Colorado for over 10 years. He’s been considering upgrading the exterior of his home but is concerned he won’t be able to pay for renovations. James has heard the phrase “cash-out refinancing” thrown around as a way to fund home improvement projects but doesn’t really know what’s involved or if it’s even a smart decision.

We understand how overwhelming it can feel trying to navigate everything that comes with cash-out refinancing which is why we have created this cash-out refinancing guide to walk you through the process and if a cash-out refinance is right for you.

 

What Is A Cash-Out Refinance?

 

A cash-out refinance, also known as a cash-out refi, utilizes the equity you’ve built on your home. This means you’ll be taking out a larger loan, usually with a lower interest rate, that’s used to pay off your existing mortgage. Leaving you with some extra cash to use for home improvements, debt consolidation, or other financial needs.

Lenders usually require homeowners to maintain 20% equity in their home after a cash-out refinance and they won’t allow you to pull out 100% of your home’s equity. That means you’ll need to have at least $60,000 in home equity, or be able to borrow up to $140,000 in cash. Keep in mind extra expenses like closing fees and appraisal costs while budgeting. If you don’t know your home’s equity, you can calculate it here.

For example, let’s say your home is valued at $200,000 and your mortgage balance is $100,00, that means you have $100,000 of equity in your home. Allowing you to refinance your $100,000 loan balance for $150,000, which gives you $50,000 to use how you want.

 

Is It Right For You?

 

A cash out refinance can be a great decision for many homeowners and the interest in cash-out refinancing has been growing among homeowners during these historically low mortgage rates. Compared to last year, cash-out refinancing has increased by 33%. It’s beneficial if you can lower your current mortgage interest rate and make good use of the extra money that comes with it. It’s also a cheap way for homeowners to be able to pay for larger expenses. Some other common uses for refinancing are:

  • Home Improvement
  • Investment Purposes
  • Debt Consolidation
  • College Expenses

 

Now that you understand what a cash-out refinance is and if it’s the right move for you, you’ll want to weigh the advantages and risks and know how to prepare.

 

Advantages Of A Cash-Out Refinance

 

Utilizing a cash-out refi can be a successful decision for homeowners that use it responsibly. From home improvement projects to resolving debt here are some of the advantages of refinancing:

  • Start Your Home Improvement Projects
    • Whether you want a new roof, siding, or an interior remodel, a cash out refi can give you the funds to do it.
  • Consolidating Your Debt
    • Interest rates for credit cards are way higher than mortgage rates. It might make sense to pay off your credit card debt now and avoid paying more over time.
  • Improving Your Credit Score
    • Paying down credit card debt could reduce your credit utilization rate, which can have a noticeable impact on your credit score.
  • Major Expenses
    • Using the cash from a refinance can help pay for major expenses like college or major home improvement projects.

 

We know the weight a decision like this can have on homeowners. Here are the potential disadvantages of a cash-out refinance.

 

Potential Disadvantages Of A Cash-Out Refinance

 

  • Higher Lifetime Interest Costs
    • You restart your interest clock when you pull out a new loan, which can increase your lifetime interest costs.
  • Risk of Foreclosure
    • If you’re unable to repay your loan you run the risk of losing your home.
  • An Easy Piggy Bank
    • Using the cash from your home to pay off debts can sound great, but running up your debt continuously can lead to bad habits.
  • New Terms
    • With a new loan you’ll have new terms. Make sure you’ve read through and clearly understand them.

 

As you weigh your options for a cash-out refinance, keep in mind it should improve your finances and lower your rate. If it doesn’t, it might not be the best move for you right now. Here’s a couple more things to keep in mind before a cash-out refinance.

 

What You Should Consider 

 

  • You’ll Need An Appraisal
    • Lenders usually require an appraisal to determine your home’s worth.
  • Expect Other Fees
    • On top of your loan, you’ll pay closing costs, lender fees, and appraisal expenses.
  • You Won’t Have The Money Right Away
    • Most lenders give you 3 days to back out before they send over the funds.

 

How To Prepare For An Appraisal 

 

An appraisal is required for refinancing and can be an overlooked part of the cash-out refinance process. The appraisal will determine how much money a lender can give you based on your home’s overall value. This means you want the appraisal to come back as high as possible. Prepare your home as though you are actually selling it.

Below are a few steps you can take to help make a good impression to your appraiser and potentially increase your home’s value.

  • Boost Curb Appeal and Outdoor Spaces
    • Mow Your Lawn- Cut your grass if it’s over 3 inches and use sharp blades to prevent tearing and keep your grass healthy.
    • Research native and easy flowers to plant a few weeks before your appraisal. This can be a major asset to your home, just remember to keep it well-mulched and watered.
    • Landscaping is an important factor but anything that’s on display should be presentable. Tidy up any furniture and power wash your siding, walkways, and fences for an added boost.
  • Declutter Your Home
    • Clutter can affect your appraiser’s ability to get a “feel” for your home and it’s value. Make sure major rooms are organized and look presentable.
      • In the living room: Ensure your space has proper lighting and make the room feel larger. You might consider rearranging your furniture or getting rid of a few pieces.
      • In the kitchen: Clear your counters of unwanted objects and have dishes cleaned and put away before your appraisal appointment. If needed, touch up your backsplash or wallpaper.
      • In the bedroom: Clothing is the biggest contributor to clutter in the bedroom. Go through your clothes and make sure each one has a designated space and donate any unwanted clothes.
      • Open all window blinds to let as much light in as possible
  • Document Your Home Improvements
    • Compile a file of evidence that shows the improvements you’ve made so far, making it easier for your appraiser. This can include replacing your windows, installing ceiling fans, painting or staining kitchen cabinets, etc.
    • Be confident and speak up about any previous renovations to ensure they get included
  • Know The Comparables
    • Comparables or “comps” are similar homes in your area. They usually have the same number of bedrooms and bathrooms with similar square footage. You can use this information to find your home’s worth and potentially contest a lower appraisal.
  • Test Your Home Security
    • Make sure your security system is working and the codes are correct.
    • Are all fire alarms installed and working?
    • Ensure you have a carbon monoxide detector

If you’re thinking about moving forward with a cash-out refinance, you’ll want to be prepared. Here’s some tips on how to be ready for a successful cash-out refinance.

 

Preparing For Refinance

 

  • Know Your Lender’s Requirements
    • Requirements will vary but most have a minimum credit score, a debt-to-income ratio, and a minimum of 20% equity in your home.
  • Calculate The Exact Amount Needed
    • Whether you’re using your funds for a home improvement project or to pay off debt, you’ll want to know exactly how much you need beforehand.
  • Have Your Financial Documents Ready
    • Ensure you’ve got the best rate from a few lenders and have your income, assets, and debt information ready to make the process smoother.

 

Now that we’ve got a better understanding of each part of the cash-out refinancing process, you might be surprised to know you could receive a tax deduction for some of your projects during a cash-out refinancing, as long as it is used to improve the property. The various projects included are:

 

    • Adding a swimming pool or hot tub
    • Constructing a new bedroom/bathroom
    • Replacing your roof to be able to better withstand the elements
    • Replacing your windows with storm windows

 

If you made it this far, congratulations! That was a lot of information. Hopefully you’re feeling more confident in what cash-out refinancing means and the advantages and risks that come with it. Utilizing your home’s equity for home improvement projects with an ROI is the smartest use of your cash-out refinance.

 

 

By: Makenna Maikish