Cash-out refinance
A refinance in which the new mortgage is larger than the old balance and the borrower receives the difference in cash.
What it means
A cash-out refinance replaces the existing mortgage with a bigger one and pays the owner the extra, minus closing costs. Lenders cap the new loan at a maximum loan-to-value ratio, which varies by program and lender, so some equity must remain in the home.
Owners use the cash for renovations, paying off higher-interest debt or other large expenses. Because the whole mortgage is replaced, the rate on the entire balance changes, which can be costly if the existing rate is lower than today’s. Turning unsecured debt into mortgage debt also puts the home at risk if payments are missed.
Example
Suppose a home is worth $400,000 and the owner owes $200,000. If the lender allows up to 80% LTV, the new loan can be $320,000, paying off the old $200,000 and releasing $120,000 in cash, before closing costs.
How it’s used
- Funding major home improvements
- Consolidating high-interest debt
- Covering large one-time costs such as education
Strengths and weaknesses
Strengths
- Access to a large sum, often at a lower rate than unsecured loans
- One payment instead of several
- Can pair cash access with a rate or term change
Weaknesses
- Replaces the rate on the entire mortgage
- Closing costs and a larger, longer debt
- Home is collateral, so foreclosure risk increases with more debt
Related terms
Educational information only, not financial, tax or legal advice. Rules, limits and rates change; check the IRS, your lender or plan, or a qualified professional before acting.