Cash Out Mortgages

A cash out mortgage is basically a plan that acts like a home equity loan, using the equity in your home to borrow up to 80% of your home's value, which is then distributed to the borrower at closing. But because this loan type reduces the equity in your home, most homeowners use the money to do renovations, repairs, or additions--anything that will raise the property value and, subsequently, the equity of your house. Other smart uses for the money would include consolidating high-interest debts, funding a college education, or buying a business.

Refinancing: when refinancing with a cash out mortgage, the initial loan amount is replaced with a greater one. To give an example, for a house that is worth $350,000 with a mortgage of $250,000, the equity available is $100,000. You could take out a new loan for $300,000, pay off your old loan, and use the extra $50,000 for home repairs or for renovations. Unfortunately, cash out mortgages are somewhat of a high risk for lenders, and so they only lend to homeowners with impeccable credit, good home equity, and for a house in a reasonably healthy real estate market.

Who should think twice: this is not a good option for a family who is thinking about moving, or for a working professional that might get transferred or otherwise need to sell quickly. A break-even analysis will probably show that in order to benefit from this type of mortgage program, you would need to spend a significant amount of time in the house to recoup the money you spent on closing costs and settlement fees. This is because refinancing, with application fees and closing costs, often costs more money than taking out a second mortgage.

Current trends: One of the biggest trends in mortgage refinancing today is an option called rate and term refinance, or limited cash out mortgage, a program that lumps the closing costs in with the amount of the new loan. The danger in these "no cost" refinances is that a lot of times a lower interest rate is being swapped for a higher one. People are lured with the thought of refinancing without spending any money, and yet they forget the point of trading one loan in for another is to secure a lower rate, otherwise they could be taking on a larger loan amount at a higher interest rate and costing themselves a good deal of money.

For more information, please visit our page on Home Equity Loans or our section on Refinancing.