Cash-out refinance loan - A closer look

Many times home owners look into refinancing, second mortgages, and home equity lines of credit, but there is also the lesser known option of a cash-out refinance. In a cash-out refinance, you actually take out more than you owe on your home, up to the amount your home is worth, and then keep the difference. Here’s an example. Say you currently owe $50,000 on a home worth $100,000. You notice that interest rates are lower, so you decide to do a cash-out refinance by financing $75,000 on your home… with a cash-out refinance loan, you pocket the remaining $25,000 cash.

With a cash-out refinance, you only have one loan payment, unlike some of the other loan options which require you to pay the original loan payment, plus a new loan payment. Keep in mind though, if interest rates are higher than your current rate, this option may not be a good choice for you.

Should you do a cash-out refinance?

Everyone’s situation is different. If you are unsure of whether or not to proceed with a cash-out refinance, it might be a good idea to seek professional financial advice. That said, here are a few things to keep in mind. If your current loan has a lower interest rate than the loan you would get with refinancing, then you should probably not proceed with a cash-out refinance. Instead, you may want to look at a home equity loan or home equity line of credit.

It’s important to remember that when using a cash-out refinance, you may have to pay private mortgage insurance if you borrow more than 80% of the value of your home. If you would have to pay private mortgage insurance, it might cost you less money to just take out a home equity loan. Let’s take a look at the key differences between the two types of loans:

According to Bankrate, here are the major differences between a cash-out refinance and a home equity loan:

• A home equity loan is a separate loan on top of your first mortgage.
• A cash-out refinance is a replacement of your first mortgage.
• The interest rates on a cash-out refinancing are usually, but not always, lower than the interest rate on a home equity loan.
• You pay closing costs when you refinance your mortgage.
• Generally, you don’t pay closing costs for a home equity loan.
• Closing costs can amount to hundreds or thousands of dollars.

Remember, it’s usually a good idea to think carefully before tapping into your home’s equity. Are you planning to use the cash for a short-term or long-term investment? Can you see yourself paying for that item for the next fifteen to thirty years? You probably don’t want to pay for your European vacation for 30 years, but what about home improvements that will add value to your home? Perhaps you want to start a business… these are both long-term investments and may be worth paying for over time. Bottom line, everyone’s situation is different. The important thing is that you consider all your options before making a final decision. If you are uncertain of how to proceed, it’s probably a good idea to seek professional advice before tapping into your home’s equity.

Sources: Wikipedia and Bankrate