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Mortgage Loans

When Does a Cash-Out Refinance Make Sense

A mortgage refinance replaces your old mortgage with a new one. Depending on the terms of your current mortgage, this process may help you secure a lower mortgage rate and a lower monthly payment. And it’s also an option if you want to switch from an adjustable-rate mortgage to a fixed-rate mortgage.

Depending on how much equity you have, refinancing is also an opportunity to convert some of your equity into cash. This is known as a cash-out refinance.

This type of refinance is an alternative to a home equity loan or a home equity line of credit. It involves applying for a mortgage with a balance that exceeds more than the balance of your existing mortgage and receiving the difference in cash.

A cash-out refinance increases the amount you owe on your home loan, so you should only take a cash-out option when it makes sense. Here are some scenarios that can make a cash out refinance attractive: 

1. You’re able to refinance at a lower rate

A cash-out refinance will reset the clock on your mortgage term to 15 to 30 years, depending on the term you select. Additionally, your new mortgage rate will be based on current mortgage rates. If today’s rates are lower than your original mortgage interest rate, a cash-out refinance can allow you to take advantage of the equity you’ve built while locking in a better rate. 

2. You can afford a higher monthly payment

Because you’re borrowing from your equity and increasing your mortgage balance, a cash-out refinance can create a more expensive mortgage payment. For this reason, only touch your equity when you’re confident in your ability to afford a higher payment. 

When you apply for mortgage refinancing, our underwriters will review your income, assets and existing debt to determine affordability. Depending on the type of mortgage loan, your house payment should not exceed 28% to 31% of your gross monthly income. 

But even if your new house payment will fall within this range, you need to be realistic about your financial situation and know what you can actually afford. Else, you could experience cash flow problems after closing on the new mortgage. 

3.  You’re using the cash to improve your home

A cash-out refinance is useful when you’re using funds to improve your property’s value. This might include kitchen or bathroom renovations, and other improvements like updating your flooring, installing new windows or replacing your roof.

4. You’re paying off debt

Cash borrowed from your home’s equity can be used pay off high-interest credit card debt. Debt consolidation can simplify your finances and reduce how much you pay in credit card interest. But you should only tap your equity for debt consolidation if you’re committed to using credit cards responsibly moving forward. You don’t want to fall into a circumstance where you pay off your credit cards with your home equity but then max out these cards again, essentially doubling your debt.

Bottom Line

Think you can benefit from a cash-out refinance? Our loan experts are happy to discuss your options. Give Cherry Creek Mortgage a call if you have questions about refinancing, a home equity line of credit or a home equity loan. We can help you determine the best solution to reach your financial goals.

*Debt consolidation does not pay off the debt, please consult a financial advisor regarding the effect of consolidating short-term debt into long-term debt