If you’re a homeowner sitting on some equity, you’ve probably heard about a home equity loan or a cash-out refinance. The latter is often marketed as an easy way to get quick access to your home’s value, which is both true and false.
It is definitely an easy way to pay off your mortgage and get some extra cash, but it’s not an easy decision to make – or one that you should make quickly. Before you apply for a refinance, it’s important to understand what it is and what you’re getting into.
Here are the most important things you need to know.
Your Home Equity Determines Your Limit
How much cash you can get from a cash-out refinance is directly dependent on how much equity you have in your home. You might have renovated your home or the market value of your property increased, which makes for the best time to apply for refinancing.
Most lenders, including AmeriSave, usually let you borrow up to 80% of your home’s value. So, if your home is appraised at $500,000, you could refinance up to $400,000 – assuming that you meet other credit and income requirements.
Your New Loan May Have Different Terms
Refinancing means you will be replacing your current mortgage, so your new loan might have a different interest rate and a new repayment term. It’s like starting all over, but with hopefully better terms now.
With a cash-out refinance, you can enjoy:
- Lower monthly payments
- An affordable interest rate
- More manageable terms
But keep in mind that if your previous mortgage term was 30 years, out of which you paid off the first 10, a new one will require you to start over.
You can technically pay it faster, but that means higher monthly payments that might not be affordable for everyone.
You Still Need Good Credit
Like any loan, your credit score is taken into account when you apply for cash-out refinancing. A good rule of thumb is to keep your score above 700.
The better your credit, the more favorable your terms will be. This can mean:
- Lower interest rates
- More flexible repayment options
- Higher loan amounts
If your credit score is lower, don’t expect it to be as favorable or beneficial to you, even if you can still qualify for the refinancing. A lower score tells lenders that you’re not as trustworthy or as capable of paying off loans as someone with a higher score.
There Are Risks to Consider
The biggest risk is obvious. You are adding to the amount you owe in total.
If your home value drops or you find yourself facing financial crises, you might end up owing more than your home is worth – or worse, risk foreclosure. Remember that your house is on the line, so if you fail to repay in time, it can be taken away from you.
It’s Not the Same as a Home Equity Loan
The difference is simple. A cash-out refinance replaces your mortgage, while a home equity loan is like a second loan on top of your existing mortgage. Both have their advantages and risks.
