What Is a Cash-Out Refinance?

How it Works

For a cash-out refinance to work, you have to have equity in your home. Then you take out a new mortgage for the full value of your house. You take part of the money that you receive and use it to pay off your existing mortgage. Then, the rest of the money that you have from the second loan can be taken as cash. You can then use this money for any purpose that you choose, and you can begin making payments on the new mortgage loan.

When going through this process, one of the most important factors to consider is the loan-to-value ratio. This is a ratio that your lender will use to determine if you can qualify for the loan. This ratio looks at the total amount of money that you owe against the house in relation to the value of the house. If this ratio does not meet the standards set forth by your lender, you cannot qualify for the loan. You can generally only borrow up to a certain percentage of your home's value, which may not leave enough for the cash you need.

Although a cash-out refinance can provide you with easy access to money, it may not always be in your best interest to move forward with the deal. Consider the interest rate that you are giving up on your existing mortgage for the one that you are getting in return. If the interest rate is much higher on the new mortgage, it may not make sense to move forward. You also need to look at how much longer this will extend the repayment of your home.

Using your equity in this manner can be very beneficial, but it can also be risky. Determine if this is best use of your home's equity. Once you use the equity, it will not be there for you to access again for several years. For many people, this is their only source of emergency cash. Make sure you have another source of emergency cash if you use your home's equity.