Which Is Better: A Cash
If refinancing wont lower your interest rate, you may want to consider a home equity line of credit or home equity loan instead. These are sometimes called second mortgages, but they wont replace your mortgage or change your mortgage terms.
A home equity loan gives you a lump-sum payout and uses your home as collateral. A HELOC also uses your home as collateral, but you can borrow money as needed until youve maxed out the line of credit or the draw period ends .
While the interest rate on a home equity loan or HELOC might be higher than what youd pay on a cash-out refi, you wont lose your current mortgage rate, and you might not have to pay as much in closing costs. You should crunch the numbers to figure out which option is best for you.
When Is A Cashout Refinance The Right Choice
A cashout refinance loan can be a great idea if you qualify for and can get a lower interest rate on the new loan versus the old loan, Saadeh says.Cashout refinancing also gives you a chance to replace an adjustablerate loan with a fixedrate mortgage, or to choose a shorter loan term which can reduce your interest payments over time.And, of course, theres the cashout that youll receive at closing, which could help you get ahead with your personal finances. Upshaw recommends homeowners use their cashed out equity for:
- Debt consolidation
- Paying off an existing home equity line of credit
- Renovating the property
- Paying income tax bills
There are other smart uses for a cashout refinance, too, like paying for a college education. But remember: Youre opening a new, longterm loan likely 15 or 30 years of monthly payments that youll pay lots of interest on, even with a low rate. Thats why experts recommend cashing out your equity only if its for a serious need or longterm investment, like the ones listed above. Using home equity for purchases with lower returns like a vacation or a new car purchase generally isnt recommended.
Fha Cash Out Refinance
You have been investing years into your home mortgage and built up some home equity. If youre considering ways to leverage that equity and turn some of it into cash, then an FHA cash-out refinance home equity loan might be a great way to lower your payments and pocket some extra cash. In most cases, you can refinance up to 80% of your home value and get paid a lump sum at closing which is called cash-out.
FHA Cash Out Refinance Guidelines
- The requirements for an FHA cash out loan are very similar to a FHA purchase loan.
- You need at least a 640 FICO or credit score
- You can cash out up to 80% of the appraised value
- Your debt to income ratio cannot exceed 55%
- Monthly payment for mortgage insurance is required
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Tapping Your Home Equity With A Cash
Most people understand that a home can be a great investment. What they may not realize is that this investment can pay off while you still own the home! And were not talking about renting it out, either.
A cash-out refinance is a great way to tap the equity youve accumulated in your home. As the name suggests, it provides cash you can use for anything you like while leaving your bank accounts and investment vehicles intact. The best part is you can still watch your home appreciate as you live in itbut now youre doing so with cash on hand!
Heres a little more about this strategy so you can determine whether a cash-out refinance is right for you.
Loan Terms Dont Have To Reset
With some lenders, you have to reset your loan term to 30 years after a cash-out refinance. Thats not how we work. We can do any loan term ten years and higher.
At American Financing, you can choose your loan term thanks to Your Term, Your Mortgage.
Its an easy way to access to cash while staying on track to being mortgage-free, and it doesnt matter which loan program you choose: VA, FHA, conventional, etc., we can write the terms so they fit your payoff schedule.
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Eliminating The Preferred Return With A Cash
Indeed, there is! Instead of selling the property after 5 years, you can a refinance or cash-out refinance the apartment building after 3 years, the period that is in this scenario you would reach the expected level of return. By refinancing, you can return the investors principal funding and simply continue holding onto the property.
Because you have returned the capital, you no longer need to pay out the preferred return rate, but you would continue to supply the investors with 25% of the cash flow and profits from the eventual sale, as they would own this part of the property.
This strategy eliminates the risk to investors after 3 years, and they still enjoy 25% of all cash flow distributions and profits, making this a popular option. For you, this option eliminated the preferred rate payout. You do have the refinance to service, but the rate on that compared to the 8% is minimal.
Interestingly, the return for the investor for Option 1 and 2 are very similar. But for you, the difference is startling. Option 1 would provide you with around $40,000 after 5 years without any investment. Meanwhile, option 2 results in a huge $120,000 after 6 years. Thats well worth waiting the extra year. Or hold on for another 4 years to see a profit of around $230,000
What Do I Need
Has it been a while since you applied for your last mortgage? That’s ok! We’re here to help you prepare for your loan refinance application process.
You’ll need much of the same information you needed for the original loan, but make sure everything reflects your current financial situation.
Bring critical documents, including:
- Tax returns and W-2s and/or 1099s
- Pay stubs
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Make Down Payment On An Investment
Are you an expert stock picker? If you could make 10 percent to 20 percent on an investment and you are only going to pay 4 percent for the interest on a cash-out refinance, why wouldn’t you do it? Well, first you have to figure out if that investment truly will pay off. There are no guarantees. But research the investment and see if it fits into your financial plan for the future.
Some people use the cash-out refi to get enough money for a down payment on a second property that they can make into a rental for an investment. It is cheaper money than taking out a home equity loan or borrowing from your 401 retirement plan. Others want to put down a down payment on their dream vacation home. It could be that beach house or a mountain cabin. Wherever it may be, you feel that it is time to splurge on something you’ve always wanted. Adding to your quality of life is priceless â but there is a price to getting a cash-out refinance. You do have to pay it back every month, and the equity in your home is now depleted.
Your Monthly Mortgage Payment May Increase
First and foremost, your monthly payment may go up. Since you’re borrowing more money than you owe on your current mortgage, your principal balance will go up — and your monthly mortgage payment may rise with it. As a rule of thumb, people generally only choose this loan option when they can save on interest rates in order to offset the added expense.
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How Much Money Can I Get From A Cash
While lenders typically allow homeowners to borrow up to 80 percent of the homes value, the threshold can vary depending on your credit score and type of mortgage, as well as the type of property attached to the loan . Lenders who offer loans insured by the Federal Housing Administration, or FHA, sometimes offer an FHA cash-out refinance that allows you to borrow as much as 85 percent of the value of your home. As noted, cash-out refinance loans guaranteed by the U.S. Department of Veterans Affairs are available for up to 100 percent of the homes value.
Option : Straight Equity Split
The easiest way to structure the deal would be to give your investors the majority of the equity, given that they are funding it. Something like 70% for the investors and 30% to you for putting the deal together and managing the project.
If you all agree to sell the building 5 years later, you receive 30% of the cash flow distributions and 30% of the increase in the propertys value. Based on the values we calculated above, you should be looking at around $50,000 from the rental income, plus 30% of the appreciation, which might run into $20-40,000 more.
Not only is this a great return without putting any of your own money in, but you also dont risk depreciation of property value, should there be a crash at the time you are selling, as your funds are not involved.
But there is a better option.
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What To Look For In A Investment Property Refinance Bank
But this process isnt just about you proving yourself to the lender they should also prove themselves to you. Choosing the wrong finance product can be costly in more ways than one, so here are a few features to watch out for in your search.
Firstly, you should be aiming for an interest rate thats as low as possible to minimize your costs. But this isnt the only thing you need to look out for. To improve your cash flow and therefore maximize the scalability of your business, choose a longer amortization rate . This isnt to be confused with the loan term, which determines when youll have to renew the loan again, the longer the period the better, but this isnt quite as important as the amortization rate.
Another critical factor is the loan-to-value ratio, which states the percentage of a propertys total value the bank is willing to lend you. Unfortunately, you cant expect a number significantly above 75%, although theres some variation depending on the local market.
If youre refinancing, youll also need to consider the seasoning period: the length of time you need to wait for a bank to lend you money based solely on the propertys value . Investors should be aiming to do this as quickly as possible, so six months would be ideal. Another option to look for is cash-out refinancing, the more equity you can pull out can help you grow your investments.
You Wont Get Cash Immediately
Similar to when you buy a home, you must submit to underwriting and appraisal processes before your lender approves your refinance. Even after you close, the Truth in Lending Act requires your lender to offer you 3 days to cancel the loan if you have a change of heart, and you wont get your cash until 3 5 days after closing. If you need money immediately, a cash-out refinance may not be the right solution.
Pros And Cons Of Cash
Before you decide to go through with a cash out refinance, its important to consider the pros and cons of cash out refinancing.
Some of the advantages include:
- You can lower your rate: This is the most common reason most borrowers refinance, and it makes sense for cash-out refinancing as well because you want to pay as little interest as possible when taking on a larger loan.
- Your cost to borrow could be lower: Cash-out refinancing is often a less expensive form of financing because mortgage refinance rates are typically lower than rates on personal loans or credit cards. Even with closing costs, this can be especially advantageous when you need a significant amount of money.
- You can improve your credit: If you do a cash-out refinance and use the funds to pay off debt, you could see a boost to your credit score if your credit utilization ratio drops. Credit utilization, or how much youre borrowing compared to whats available to you, is a critical factor in your score.
- You can take advantage of tax deductions: If you plan to use the funds for home improvements and the project meets IRS eligibility requirements, you could take advantage of the interest deduction at tax time.
Some of the drawbacks of cash out refinances are
Determine How Much Cash You Need
Once you know that you meet the requirements for a cash-out refinance, determine how much money you need. If youre planning to cash out for repairs or renovations, its a good idea to get a few estimates from contractors in your area so you know how much you need. If you want to refinance to consolidate debt, sit down with all of your credit card and bank statements and determine exactly how much cash you need to cover your debts.
Debt Snowball Or Avalanche Methods
While the debt and snowball approaches to paying down debt won’t give you an immediate cash infusion, they can save you money on interest and create more cash in your budget over time.
The debt snowball method works by having you pay just the minimum on all your debts except for the account with the lowest balance.
You’ll put as much as you can toward that balance to pay it off more quickly. Once it’s paid off, take what you were putting toward that debt every month and add it to the monthly payment you were making on your next-lowest balance. Continue the process of paying off your accounts until you’re debt-free.
The debt avalanche method is a similar strategy but targets your balances with the highest interest rates first. With this approach, you may be able to save more on interest versus the debt snowball method. But if you’re struggling to stay motivated with your debt payoff, the snowball approach may give you more wins early on.
Pay Off A Second Mortgage Or Equity Line
It would be nice to have just one mortgage to pay each month. You’ve been paying your second mortgage and/or your equity line of credit payments along with your original mortgage. By getting a cash-out refinance to pay those other mortgages off, you might have better cash flow, depending on what interest rate you receive and how much you need to take out in cash from your refinance. But remember that on a cash-out refinance, you must pay closing costs. Those costs can add up into the thousands depending on your mortgage. Even if the closing costs can be rolled into your cash-out refi, you will have to pay it â just for a longer period of time. Another thing to consider is how close you are to paying off your original mortgage. If it is a new loan and the interest rate is less than what the refinance interest rate will be , then a cash-out refinance could be the answer.
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When It Makes Sense To Get A Cash
A cash-out refinance may make sense if you want to leverage the equity you have in your home to improve your overall financial situation.
For example, using the money to pay off high-interest debt could save you money on interest charges and provide you with a little budget relief. And if you’re thinking of making improvements to your home, using a low-interest cash-out refinance could make it possible to do the work and increase the value of your home.
Other potential options include using the money to save for a child’s education, bolstering your emergency fund or paying for other major expenses.
It may also be a good idea to get a cash-out refinance if you’re getting a divorce and want to buy yourself or your ex-spouse out of the home.
Because of the amount of time it takes to refinance a mortgage, it may not be a great way to cover an emergency expense that needs to be taken care of immediately.
Option : Preferred Rate Of Return
You could consider offering your investors a preferred rate of return rather than a straight equity split.
In this scenario, you would agree to pay the investors a % of their investment amount before any agreed split. So, for example, if you offered the investors for this project an 8% preferred return on investment, you would pay them 8% of the $250,000 they invested, equating to around $20,000 yearly. If your projection of a $22,500 return on the project holds good, youll pay the investors their cut, and then the remaining $2,500 would be split based on your agreed equity.
Of course, this generous 8% preferred return rate means that if cash flow goes down, you could be caught short financially.
Investors are generally happy with this arrangement, as it presents a good ROI per year. You may also wish to offer a stake in the equity, for example, 25%, which means that whatever is left over after the preferred rate of return, they get 25%, you keep 75%, either from cash flow or a profit at sale.
The critical risk to be aware of is that if cash flow is lower than the agreed rate, you will still owe those funds to the investors. This means that you may have years where you receive little or no income from the project. Because of this, use the preferred return with caution. It is best used for investments with a lot of cash flow to reduce the risk outlined above.
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