Refinancing a Mortgage, Cash-Out Advice, Rate-and-Term Tips, Home Finance Help

Know the basics for refinancing your Mortgage: Cash-Out vs. Rate-and-Term Mortgage

9 Nov 2020

Refinancing Loans

When you refinance your mortgage, you only have two essential choices. First, if you want to do refinancing on your previous loan for the sake of changing the terms or getting low-interest rates, then it can be the rate-and-term refinance. The other one is if you want to extract equity from your home or, in simple words, do renovation, pay college costs, or pay debts- then better choose the cash-out loan.

However, it is only important that you understand the potential effects of these two refinance options on your financial position. In this way, you can assess and be prepared for whatever the process will turn out. 

Key Points: 

Cash-out and rate-and-term are the two basic options in mortgage refinancing. 

Changing a current loan to another that has better terms is possible when you choose the rate-and-term to refinance. 

The cash-out refinancing allows you to extract home equity to use in other concerns. 

There are additional points, fees, and interest rates in cash-out refinancing since there is a risk on the lenders. 

Extracting some cash from a refinance is possible even without extra fees incurred from a cash-out loan. This is by taking advantage of an overlap fund during the end of a previous loan and the start of another.

Basic Information about Mortgage Refinancing 

 Let yourself think of refinancing as the process of having a new mortgage as a replacement from an existing one or as the consolidation of two mortgages into one single loan. Simply, it is in with the new and out of the old one. When the old one is being paid off, the new mortgage comes to replace it. 

In refinancing, lots of reasons are needed to be considered. One of those is to save money. In August 2008, a fixed-rate mortgage for 30 years on average will have an interest rate of 6.48%. Right after the financial crisis, there was a steady decline. Moving on, by December 2012, that fixed mortgage rate was cut into almost half. It became 3.35%. In 2017, it increased and edged up to 3.99%. In 2018, it peaked up at 4.54%, yet according to Freddie Mac, it suddenly dropped to 3.94% in 2019. 

Cash-Out Refinancing vs. Rate-and-Term Refinancing 

For the most straight-forward and simplest option, the rate-and-term refinancing is what you need. Here, no money does any changes in the case, only the fees that are associated with the loan. Also, the mortgage’s size remains the same, and you only trade the mortgage terms you have for a new one. 

In contrast, the cash-out refinancing of the new mortgage is way bigger compared to the old one. New loan terms allow you to borrow advanced money to help you take equity out of your home to be cashed out. 

A rate-and-term refinancing that has a higher loan-to-value ratio can be allowed to you. This is the divided amount of loans through the value of a certain property. Thus, this is easier to have a loan though you can be considered a risky creditor because you borrow a high percentage depending on your home’s worth. 

Below are other reasons giving distinctions the rate-and-term refinancing from cash-out refinancing. 

Cash-out Loans are Pricier 

In a cash-out loan, there are tougher terms. If you are looking back for some equity you built in your home to cash, it will probably cost you. It depends on the equity amount you built along with the credit score.

An example of this is when you have 700 as your FICO score, and you have a loan-to-value ratio of 76%. The loan is also considered cash-out, and the lender can then add basis points amounting to 0.750 to the up-front loan cost. If $200,000 is the loan cost, $1,500 can be added by the lender. Alternatively, higher interest rates could be paid from 0.125% to 0.250% and more depending on the conditions of the market. 

Special Considerations in Cash-out Loans

In some circumstances, cash-out loans can have no tough terms. A low loan-to-value ratio and high credit score can substantially shift the numbers depending on your favor. For example, if 750 is your total credit score and you have less than 60% as a loan-to-value ratio, there will be no additional charges to pay as a cost for a cash-out loan. This is because the lender believes that you are less likely to have loan defaults than doing a rate-and-term refinancing. 

Moreover, your loan can be cashed out even if any cash isn’t received. If you are paying off auto loans, credit cards, or others that are not part originally of your mortgage plan, the lender can probably consider it a cash-out loan. If there is no consolidation of two mortgages into one and a cash-out loan originally, the new one will be classified then as cash-out. 

Split on Cash-Out Refinance by the Americans 

Despite the advice of finance experts against the habit of stripping the equity of your home in a cash-out refinance, several data interpret that nearly half of Americans choose this type of loan. In the quarterly refinancing statistics of Freddie Mac, it was demonstrated that during the fourth quarter, 48% of all refinance loans were classified as cash-out. 

Interesting Loophole in Mortgage Refinancing 

A mortgage broker can help a lot if you will generate a small amount coming from your refinancing without being considered a cash-out loan. This works by basically taking advantage of the funding overlaps at the end of an old loan and the beginning of a new one. However, this is considered to be complicated since it can affect any escrow accounts. 

Bottom Line

The responsibility of a borrower, including yourself, includes sufficient awareness about the options to a lender. Most people avoid additional costs in a cash-out loan as the best move financially. If you have some reasons to take the cash out of your home, a cash-out loan is a valuable move. However, it is important to remember that an extra amount paid in interest over the loan life can be a bad idea.