Some words leave you guessing. For example, there’s not much about the word zarf that clues you in to the fact that it’s a cup-holding appliance used to protect your fingers from hot drinks, but despite its mystique, it’s certainly more fun to say than coffee sleeve. Likewise, you could spend an afternoon contemplating the term aglet without ever realizing that it’s the name for the little plastic tips at the end of shoelaces. On the other end of the spectrum, you’ll find words like cash-out refinance loan. The definition of the term is right in its name. But let’s dig a little deeper to explore the ins and outs of cash-out refinance loans . . .
What Is a Cash-Out Refinance Loan?
As its name implies, a cash-out refinance home loan is a chance to refinance your home and trade some of your home equity for cash. As Credible explains, when you opt for a cash-out refinance, you’re taking out a new, larger mortgage. The new mortgage pays off your old loan, and you get the difference between the two loans back in cash, minus the closing costs.
Why Do People Use a Cash-Out Refinance?
Why do some homeowners opt for a cash-out refinance loan? According to Investopedia, there are several reasons that people decide to use this type of refinancing. Refinancing with this type of loan product is a way to access cash. That can make it appealing for homeowners who want to renovate their home or make energy-efficient home improvements, start a business, make an investment, pay for education, or consolidate their debts. As with any other refinance product, it can also be a chance to snag a lower interest rate, decrease your mortgage payment, modify the terms of your loan, or add or remove borrowers from the loan.
What Are the Advantages of Using a Cash-Out Refinance?
As NerdWallet reports, using a cash-out refinance mortgage can have real advantages:
- Lower Interest Rates: Refinancing a home loan generally offers lower interest rates than almost any other form of borrowing, which can produce substantial savings if you use the opportunity wisely.
- More Tax Deductions: If you use the funds to build, buy, or make substantial improvements to your home, then you may qualify for tax deductions, including the mortgage interest deduction.
- Better Credit Score: If you use the funds to pay off your credit cards in full, you’ll reduce your credit utilization ratio, or the amount of available credit that you’re using. This can lead to a higher credit score.
- Less Credit Card Debt: If you use the funds to consolidate your debts and pay off your credit cards, you could see substantial savings. After all, the interest rates on credit cards are much higher than the interest rate for a cash-out refinance home loan.
What Are the Drawbacks of Using a Cash-Out Refinance?
As Experian notes, there can be serious downsides to utilizing a cash-out refinance:
- Foreclosure Risk: A cash-out refinance mortgage uses your home equity as collateral for your debt. If you fail to pay, you risk losing your home.
- New Loan Term: A new loan means a new loan term. If you opt for a short loan term with a larger loan, your monthly payment will likely be larger. If you choose a longer lifespan for your loan, then you’ll be paying more interest.
- Closing Costs: Refinancing isn’t free, although closing costs can often be rolled into the loan. Closing costs typically run between two and six percent of the loan amount, so you’ll need to decide if refinancing is worth the price.
- Enabling Spending: Using a cash-out refinance to consolidate debt can be problematic. Borrowers who don’t have plans in place to keep their finances in control may find themselves in a cycle of dangerous spending and increasing debt.
Could a cash-out refinance loan be the key to reaching your goals? Talk to the loan experts at PrimeLending Dallas, Texas. With our commitment to friendly, personalized service, we’re ready to help you find the mortgage that’s a match for your situation. Contact us today.