You may need a sum of money to pay credit card bills or to handle an emergency. A cash-out refinance is something that can give you the money that you need. A cash–out refinance replaces your current mortgage, but it will be for a larger amount than you owe on your first mortgage. Because it offers you more than you owe on your current mortgage, the money that is left over goes to you. This money can be used for any purpose you can imagine, including the credit card bills that are becoming uncontrollable.
Suppose that your home has been appraised for $200,000. Currently, you owe $100,000 on your mortgage. Your credit card balances add up to $40,000. You can obtain a cash-out refinance for $140,000, and you will receive $40,000 in cash when you close.
Advantages of a Cash-Out Refinance
That is a great advantage, but there are other advantages as well. Your interest rate may be lower with a cash-out refinance than if you were to obtain a home equity line of credit or a home equity loan. The money you receive from the cash-out refinance will allow you to pay your credit card bills in full. Because your interest rate on the cash-out refinance is lower than the interest rate on your credit cards, you will save a lot of money in interest by doing this.
When you have paid your credit card bills in full, you will have reduced the amount of available credit that you are using. This causes your credit scores to increase. Also, you cannot deduct your credit card payments from your taxes, but you can deduct mortgage interest. The result will be that you won’t owe the government as much money, and if you receive a refund, your refund will be larger.
Negatives Associated with the Cash-Out Refinance
There are also some negatives associated with cash-out refinancing. Your home, of course, will be the collateral that secures this loan. If you experience a serious financial setback, you may miss payments, and you could lose your home.
A cash-out refinance may give you less favorable terms than your current mortgage gives you. To avoid this, make sure that you know exactly what interest rate you are being given and know intimately the rest of the loan’s terms.
You can expect to pay closing costs when you obtain a cash-out refinance. Your closing costs will be between three percent and six percent of the loan. In this case, you would pay $4,200 to $8,400 for a $140,000 loan. This may not be worth it to you.
You will be required to purchase private mortgage insurance if you borrow more than 80 percent of your equity. The PMI would add approximately .05 percent to 1 percent to the amount you borrow every year. For a $140,000 loan, the PMI could add $1,400 to the amount you have to pay back.
A cash-out refinance can be bad idea if you have misused your credit cards in the past. As was mentioned above, after a cash-out refinance, your credit scores increase. This may lead you into temptation to charge too much on your credit cards again. The best plan is to learn better spending habits so that you do not end up in the same situation in a couple of years.
Who Can Obtain a Cash-Out Refinance?
According to HUD, you are eligible to apply for a cash-out refinance if you live in the property that you wish to refinance as your primary residence. You can also obtain this loan if you have paid your mortgage in full.
Unfortunately, you can be disqualified from receiving this loan. For example, if you have missed any payments or were delinquent on your payments in the past year, you may not apply. If you have not had your mortgage for six months, you are not eligible to apply for a cash-out refinance. If you have had your mortgage longer than six months but not for a full year, you must have paid all of your payments on time to qualify for cash-out refinancing. Therefore, your payments must be current, and you must have made each payment in the month that it was due within the past 12 months before you apply.
You don’t have to let the above statements scare you. If you can use your cash-out refinance to get out of debt and lower your interest rate, this would be a very good thing. The time not to do a cash-out refinance is if you always wanted to take a trip to Europe during Fashion Week, and you need a way to finance it. The better idea is to use the money for home renovations or to pay off debt, and make sure that you make all of your monthly payments on time.