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Cash-Out Refinance

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A cash-out refinance is a way to make some money off the equity you’ve built in your home. It replaces your original mortgage with a new loan for more than what you currently owe. In a way, you are reselling a portion of your house that you now own (the equity) back to a lender for cash. You then restart the process of paying this back.

Why would someone go this route instead of taking out a personal loan? There is a much lower rate of interest on the money you’ll get in a cash-out refinance, and, if you are using it for home improvements, you can deduct the full interest amount on your taxes.

This being a refinance, you should also be looking for a better interest rate than you have with your current mortgage, even though you’ll probably be extending the period of your loan.

Not a Home Equity Loan

Home equity loans, commonly known as “second mortgages,” are separate loans from your original mortgage, essentially liquidating some or all of the equity in your home. Your original mortgage stays the same, and now you’ve added a second loan on top of it.

A cash-out refinance, on the other hand, replaces your existing mortgage with a new one. If the market has better interest rates now than when you got your initial mortgage, you’ll probably want to kill two birds with one stone and do a cash-out refinance. If, however, you still want to borrow against your equity, but the new interest rates will negatively affect your current mortgage, you might take out a home equity loan separate from your mortgage.

Some Points to Consider

  • A new mortgage could mean that you have to pay private mortgage insurance (PMI). If you are borrowing more than 80% of your home’s value, the lender will want some protection in case you default. This may or may not make the difference between a second mortgage or a cash-out refinance.

  • Whatever you take this loan out for, you’ll be paying it off for a long time. Weigh your need/desire for the cash against the fact that it might not be taken care of for 15 to 30 years.

  • You might not have to pay closing costs on a home equity loan.

  • If you are quite far into paying off your mortgage, refinancing is probably not the best option.
So, the equity you’ve built up in your home can be used right now; it's not just a representation of how far you’ve come in paying off your loan. It is important to be careful, however. Without doing the proper research, you could end up a lot more in debt than you were before and with not much to show for it.

Patrick Hanan  Posted by Patrick Hanan on June 15, 2010

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