When refinancing a mortgage, essentially, you have two choices. If you refinance your existing loan to get a lower interest rate or change the terms, it is called a rate-and-term refinance. If you want to extract some of the equity in your home—perhaps to do a renovation, pay down debts, or help pay college costs—you may take a cash-out loan.
But it’s important to understand how these two refinance options can affect your financial position.
Buying a home is probably one of the biggest investments you’ll ever make, and you likely want to do everything you can to make sure your home is as comfortable and up-to-date as possible. But it can be tough to build up the necessary savings to complete home renovations and repairs.
A cash-out refinance may be your answer. It can help you accomplish your home improvement goals so you don’t have to rely on credit cards, a personal loan, or a second mortgage. A cash-out refinance can also help you use the money you’ve already paid into your mortgage to do things like cover repair bills, consolidate to pay off debt, or even eliminate your outstanding student loans.
What Is A Cash-Out Refinance?
As your mortgage matures, you gain equity in your home. Equity refers to the amount of a home’s value that you’ve actually paid off. You can gain equity in two ways:
- Your home increases in value.
- You pay down your mortgage principal through your monthly mortgage payments. Every time you make a monthly payment on your loan, you gain a bit more equity in your home.
A cash-out refinance is a type of mortgage refinance that takes advantage of the equity you’ve built over time and gives you cash in exchange for taking on a larger mortgage. In other words, with a cash-out refinance, you borrow more than you owe on your mortgage and pocket the difference.
Unlike when you take out a second mortgage, a cash-out refinance doesn’t add another monthly payment to your list of bills – you pay off your old mortgage and replace it with your new mortgage.
- The basic options when refinancing a mortgage are a cash-out, or rate-and-term refinance.
- You can extract some of the equity in your home with a cash-out refi.
- In a rate-and-term refinance, you exchange the current loan for one with better terms.
- Cash-out loans generally come with added fees, points, or a higher interest rate, because they carry a greater risk to the lender.
- It may be possible to extract some cash from your refinance without incurring the extra fees of a cash-out loan by taking advantage of the overlap of funds at the end of one loan and the beginning of another.