Basically, a cash-out refinance is the process of refinancing your mortgage for more than you currently owe and taking the cash difference. Let’s say that you have a home loan of $300,000, which you still owe $200,000 on. That means that you have $100,000 in equity. Then maybe you decide you want to pay off some credit card debt and cash out $25,000 of that equity money. Your mortgage would then go up to $225,000.
Cash-Out Refinance vs HELOC
A cash-out refinance sounds incredibly similar to a home equity line of credit (HELOC). However, an HELOC is a second loan on top of your first one, whereas a cash-out refinance replaces your existing mortgage to show the money you took out.
The Drawbacks
If you refinance to a lower interest rate that is one thing, but if your interest rate was 3.5% and today’s interest rate hovers around 4.5%. You would be refinancing to a higher rate and that would end up costing you more money in the long run. Plus you will also have to pay closing costs.
You will also have to pay closing costs on an HELOC, but it will only be on the amount of the HELOC versus the entire loan. So 3% of a $25,000 HELOC is $750, but 3% of the new cash-out refinance amount of $225,000 is $6,750. Also, with a cash-out refinance, you could be setting the clock back when you start a new 30-year loan.
The Popularity of Cash-Out Refinance
If the drawbacks are making you rethink the cash-out refinance, you would be surprised to know that this is actually quite popular. Nearly 42% of refinances in the 3rd quarter of 2016 were cash-out refinances.
