Pros and Cons of a Cash-Out Refinance

Whether you have debt you want to consolidate, student loans to pay for, cash-out refinancing can be a good option. A cash-out refinance is also ideal for any home improvement projects you want to take on.

Although many homeowners enjoy having the option of cash-out refinancing, it’s important to consider the pros and cons before making your decision. When are cash-out finances a good idea?

Here is some information on what a cash-out finance is, whether you can qualify and the benefits and disadvantages that come along with it.

What is a Cash-Out Refinance?

A cash-out refinance is a loan that replaces your current mortgage with a new home loan for more than you owe on your home. In other words, you will have a higher balance. The difference between the two loans is that the new loan amount will be given to you as cash that you may spend however you want, whether it’s for home renovations or debt consolidation.

However, you must have good equity in your home if you want to qualify for a cash-out refinance. You will need to have at least 30 percent equity in your home. Also keep in mind that the maximum loan value ratio is 80%. If you surpass that amount, you will be putting your home at risk and will have to pay Private Mortgage Insurance (PMI).

Cash-Out Refinance Pros and Cons

Pros

• Lower interest rates
• Debt consolidation: Pay off student loans or other types of debts
• Pay off high interest credit cards to improve debt-to-income ratio
• Invest in home renovations & improvements to increase home equity
• Mortgage interest payments are tax deductible; bigger tax refund
• Spend cash the way you want

Cons

• Have to pay for closing costs (similar to regular mortgage)
• Home foreclosure risk if you aren’t able to make the payments
• Less favorable / new loan terms
• If you borrow over 80% of your home’s value, you will have to pay Private Mortgage Insurance (PMI)

What’s the Bottom Line?

A cash-out refinance makes sense if you are going to use it for the right purposes and you are able to get a good interest rate on the new loan. If you’re going to use the money to pay for a vacation,you might want to think again.

You’re not going to be making any investments that can help you consolidate your debt or increase your home equity, such as using the cash for home renovations or paying off your credit cards.

The bottom line is, If you don’t get any return on your investments, it’s going to hurt you more than help in the long run.

So before choosing to go with a cash-out refinance, make sure you examine the pros and cons to determine if this option will work for you and your financial situation.

Keep in mind you’re using your home as collateral for a cash-out refinance, so it’s important to prioritize making your payments on time and in full.