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Financial professionals sometimes refer to home equity as “trapped” because it’s wealth you’ve accumulated but can’t spend unless you sell your house. If you have good credit, though, it doesn’t have to be that way. You can free your equity by taking out a new loan secured by your home and use the money however you want. This maneuver — known as a cash-out refinance — isn’t without risk, however, so it’s wise to proceed cautiously.
Here’s what you need to know about cash-out refinances:
- What is a cash-out refinance and how does it work?
- Can I get a cash-out refinance on a paid-off home?
- Reasons to consider a cash-out refinance on a paid-off home
- Pros of a cash-out refinance on a paid-off home
- Cons of a cash-out refinance on a paid-off home
- How to apply for a cash-out refinance
- Other ways to borrow against your paid-off home
- Is a cash-out refinance on a paid-off home right for me?
What is a cash-out refinance and how does it work?
A cash-out refinance is a new, bigger mortgage that pays off your existing mortgage and gives you the difference to spend or save as you please. By comparison, a rate-and-term refinance replaces your existing mortgage with one that’s roughly the same size and gives you limited or no cash back.
Can I get a cash-out refinance on a paid-off home?
Yes, it’s possible to get a cash-out refinance on a paid-off home. It’s still considered a refinance even though you won’t be paying off an existing mortgage.
Reasons to consider a cash-out refinance on a paid-off home
Here are some reasons to consider getting a cash-out refinance on a paid-off home.
Fund home improvements, renovations
Thanks to a cash-out refinance, you could use your home’s equity to fund home improvements.
For example, you could use the cash to build an addition, convert your garage into an apartment, or build a smaller stand-alone dwelling in your backyard.
Then, you could rent out that space for additional income or allow a dependent family member to live there, like an older parent you’re taking care of or a child who just graduated and is looking for the right job to launch their career.
If you have high-interest debt on credit cards, personal loans, student loans, or auto loans, a cash-out refinance can give you a lump sum to pay off all this debt and start over with a single lower interest payment.
If you’d rather owe money to one mortgage lender (and have a fixed monthly payment and payoff date) than owe money to seven credit card companies (with variable payments and no set payoff date), this option might appeal to you.
Free up money to invest
A cash-out refinance might give you funds to save up for retirement, college or another meaningful expense. Essentially, you’d be using the cash to fund your living expenses so you could put more of your income into a 401(k), IRA, 529 college savings plan or other savings vehicle.
You could also use the cash to invest in stocks through a taxable brokerage account or to purchase a second home or investment property. You’d be using your main home as leverage and trying to earn more through your investments than the interest rate you’re paying on your mortgage.
Learn More: Should You Get a Cash-Out Refinance to Invest?
Pros of a cash-out refinance on a paid-off home
Below are some potential benefits of doing a cash-out refinance on a paid-off home:
- Low-cost financing to fix up your home: Most homeowners will need to make repairs or will want to make updates or do renovations at some point, but these projects can be expensive and difficult to pay for with savings. That said, some renovations won’t increase a home’s value and only make sense if your main goal is to enjoy your home more.
- Debt consolidation: If the annual percentage rate (mortgage rate plus closing costs) on your cash-out refinance is lower than the APR on the debt you’re paying off, you could save money, at least in the short run. In the long run, you might pay more interest if you take 30 years to repay your consolidated debt.
- Potential tax deduction: If you use your cash-out refinance loan to renovate or remodel your home, the interest may be tax deductible. Keep in mind that most people don’t itemize their deductions because the standard deduction is so high, and the value of a tax deduction is low compared to the value of a tax credit.
Cons of a cash-out refinance on a paid-off home
Here are some disadvantages of using a cash-out refinance on a paid-off home:
- Risk of foreclosure: With a cash-out refinance, or any other mortgage, you could lose your home if you can’t make your monthly payments. By comparison, credit card debt and most personal loans are unsecured. Your house is still an asset that creditors can go after, but that process could take far longer than a mortgage foreclosure.
- Loss of control: When a lender has an interest in your home, they call the shots about what type of insurance you have to carry and how much. You may also have to use an escrow account and rely on your lender to pay your property taxes and insurance on time.
- Closing costs: Closing costs on a cash-out refinance typically range from 2% to 5% of the loan amount, or $2,000 to $5,000 for every $100,000 borrowed. Other borrowing options may be less expensive overall if they don’t have these fees, even if the interest rate is slightly higher. You’ll want to compare APRs when evaluating your options.
- Slow way to get cash: It usually takes several weeks to refinance a home loan because so many parties are involved: loan officers, appraisers, title companies, and so on. Federal law also requires a three-day waiting period, or right of rescission, before the lender can disperse your loan proceeds.
How to apply for a cash-out refinance
If you’re interested in applying for a cash-out refinance, follow these steps:
- Set a goal. Know what you want to accomplish with your loan, how much you need to borrow, and what monthly payment amount (dictated by the APR) fits into your budget.
- Get quotes from multiple lenders. There’s no way to know how good of a deal you’re getting unless you compare offers from at least three lenders. Credible can help you compare options without hurting your credit score.
- Choose a lender and submit a full application. Gather and submit the documents your lender needs to underwrite your loan. These include your two most recent tax returns and bank statements; two most recent paystubs or financial statements for your business; and proof of homeowners insurance.
- Get a home appraisal. The appraisal provides an official estimate of your home’s market value that your lender will use to determine how much you can borrow. Your loan may require a full in-person appraisal, or you may be able to order a simpler and less expensive drive-by appraisal or automated valuation.
- Review and sign your closing documents. If your application passes underwriting, you’ll need to review all the paperwork to make sure the loan terms are correct and you understand your agreements. You’ll hire a notary to witness your signature on key documents. After the three-day waiting period, your lender will fund your loan and deposit the proceeds in your bank account.
Other ways to borrow against your paid-off home
A cash-out refinance isn’t the only way to borrow against your home’s equity. Consider these other options.
A home equity line of credit might be a better option than a cash-out refinance if you want to borrow smaller sums as you need them and you don’t mind paying a variable interest rate. Many lenders offer HELOCs with no closing costs and only require you to pay interest, not principal, during the draw period. Some offer below-market introductory rates and will let you lock in a fixed rate on some or all of what you borrow.
Home equity loan
A home equity loan will function just like a cash-out refinance on a paid-off home. You’ll borrow a lump sum with a fixed interest rate for up to 30 years. A home equity loan that’s the only loan against your house — what lenders call in “first-lien” position — can have a similar interest rate to a cash-out refinance.
Also, closing costs on a home equity loan may be lower than those on a cash-out refinance. It’s worth getting home equity loan quotes to compare with cash-out refi quotes.
With an unsecured personal loan, you can avoid pledging your home as collateral. You may be able to get an interest rate comparable to a cash-out refinance or home equity loan rate, but you may not be able to borrow as much and the loan term may be shorter. You could pay less interest and close on the loan within days, not weeks.
The personal loan companies in the table below compete for your business through Credible. You can request rates from all of these partner lenders by filling out just one form (instead of one form for each) and without affecting your credit score.
|Lender||Fixed rates||Loan amounts||Check rates|
|7.99% - 29.99% APR||$7,500 to $50,000|
|9.95% - 35.99% APR||$2,000 to $35,000**|
|11.79% - 20.84% APR||$10,000 to $50,000|
|8.99% - 35.99% APR||$2,000 to $50,000|
|7.99% - 24.99% APR|
$2,500 - $40,000
|11.52% - 24.81% APR||$5,000 to $40,000|
|9.57% - 35.99% APR||$1,000 to $40,000|
|7.99% - 35.99% APR||$2,000 to $36,500|
|7.99% - 25.49% APR with autopay||$5,000 to $100,000|
|18.0% - 35.99% APR||$1,500 to $20,000|
|8.49% - 17.99% APR||$600 to $50,000 |
(depending on loan term)
|9.99% - 35.99% APR||$3,500 to $40,000|
|8.99% - 25.81% APR10||$5,000 to $100,000|
|11.69% - 35.99% APR7||$1,000 to $20,000|
|8.49% - 35.99% APR||$1,000 to $50,000|
|5.2% - 35.99% APR4||$1,000 to $50,0005|
A reverse mortgage might make sense if you are 62 or older and don’t have a source of income to make monthly payments on a home loan or a personal loan. However, these loans can be pricey and difficult to understand, so proceed cautiously and seek out independent financial guidance if you need it.
Is a cash-out refinance on a paid-off home right for me?
Cash-out refinancing can be a good option for many people, but it isn’t the best choice in every situation.
It may be a good option if:
- You’ve shopped around and determined it’s the least costly way to meet your goals.
- You’re OK with using your home as collateral.
- You can wait several weeks to get the money you want.
If may not be a good option if:
- You’ve shopped around and found a different type of loan that will meet your needs at a lower cost.
- You like owning your home free and clear and don’t want to use your home as collateral.
- You need money within days.
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