What is a Cash Out Re-Finance?
Cash out re-finance is an option which enables the house owner to refund his property for amount greater than the balance of the exiting mortgage. Afterwards, existing balance plus the additional amount over the course of the loan period are repaid as well as a check for the amount above and beyond the balance of the exiting mortgage is given. Afterwards householders can use these checks for their own needs and repay the debt along with the rest of re-financed amount.
When is a Cash Out Re-Finance Possible?
It should be mentioned, that cash out option is available in case there is existing equity at home which is of great importance since the lender is able to justify the practice of offering increased funds to the house owner due to property’s value. This is because the lender feels as if security of possessing a house for collateral is not a risky affair provided the householder suffered defaulting on the loan.
Furthermore, house owners who wish to take advantage of cash out re-finance offered by a lender should inquire whether the latter offers this type of re-financing or not. This issue is quite significant as this option is not always offered by all lenders. It should actually be one of the first questions the householder should ask when requesting information which concerns re-financing programmes. As a result, householders who are seeking cash out re-finance will save much time.
How Can Cash be Used?
For many householders the most appealing aspect of cash out re-financing is that additional funds can be used by them for any purpose. The house owner does not even have to provide the lender with explanation of how the additional funds are going to be used. This fact is of paramount importance. Once the lender writes the check for additional funds, he has no concern in how this money is being used. This is because the amount of additional funds is rolled into the re-financed mortgage while the lender is simply focused on the householder’s ability to repay the mortgage and is not concerned about the way the funds released from the cash out are being used by the property’s holder.
While the purpose of cash out re-finance does not have to be disclosed to the lender, the house owner should use these funds in a judicious manner as he will be responsible for repaying these funds to the lender. Some of popular uses for funds collected from cash out re-financing include the following:
Undertaking home improvement projects
Purchasing items for the home
Taking a dream vacation
Putting money in a child’s tuition fund or
Purchasing a vehicle
Starting a small business
Using the cash out option to improve one’s house is just one example of a situation where the funds can be tax deductible. Thereby, consulting a tax attorney on the matter in order to determine whether you are able to deduct the interest from the repayment of your re-financing loan or not is advisable.
Cash Out Re-Financing Example
The process of cash out re-financing option is fairly easy to illustrate with a simple example. Consider a houseowner who purchases $150,000 property with a 7% interest. Now consider he has already repaid $50,000 of the loan and would like to borrow additional $20,000 to make a rather large purchase or invest in a small business. With this additional funding available, the house owners have the opportunity to use the equity in their property to make their dreams come true. In the example above the householder may refinance for a total of $120,000 at a lower interest rate, such as 6.25%.
It is known as a fact that comprehension of re-financing process can be quite confusing as those who are considering re-financing might initially be overwhelmed by the number of options available to them. However, after spending some time on studying this process, they will likely find it to be not as daunting as they thought. Some of the options available to those interested in re-financing along with important factors to be considered to determine whether refinancing is worthwhile or not, will be discussed in the article.
Consider the Options
Nowadays houseowners have quite a few options available to them when they are considering the possibility of their property re-financing. The most significant decision is to choose the type of the loan. Generally, mortgages the houseowners are likely to encounter include fixed rate mortgages and adjustable rate mortgages (ARMs). Additionally there are hybrid loan options available.
As the name implies, a fixed rate mortgage consists of the interest rate which remains constant throughout the duration of the loan period. This is an especially favorable type of loan when the homeowner has credit which is sufficient enough to lock in a low interest rate.
ARMs are mortgages where the interest rate varies during the course of the loan period. The interest rate is usually tied to an index such as the prime index and is subjected to rises and falls in accordance with this index. This is considered a riskier type of loan and is, therefore, often offered to homeowners who have less favorable credit scores.
Although ARMs are considered somewhat risky there is usually a certain degree of protection stated in the loan agreement. This may come in the form of a clause which limits the amount the interest rate can increase, in terms of percentage points, over a fixed period of time. Thus, homeowner can be protected from sharp increases in the interest rates which would otherwise considerably raise the amount of their monthly payments.
Basically, hybrid loans are mortgages which combine a fixed element with an adjustable element. An example of this type of loan is a situation where the lender may offer a fixed interest rate for the first five years of the loan and a variable interest rate for the remainder of the loan. Lenders typically offer a lower introductory interest rate for the fixed period to make the mortgage seem more enticing.
Consider the Closing Costs
The closing costs associated with re-financing should be carefully considered when deciding whether to re-finance the property or not. This is significant due to the fact that once homeowners re-finance their home they are often subjected to many of the closing costs as when they originally purchased the home. These costs may include, but are not limited to appraisal fees, application fees, loan origination fees and a host of other expenses and can be quite significant. It usually occurs when the homeowner considers the overall savings associated with re-financing.
Consider the Overall Savings
Another factor homeowners should carefully consider is the overall savings. This is essential since re-financing is not typically considered worthwhile unless it results in a financial savings. Although, some homeowners refinance their properties to lower monthly costs and are not concerned with the overall picture, as they generally consider whether they will be saving money by refinancing or not.
The amount of money the homeowner will save while re-financing depends on the new interest rate in relation to an old one. It is important to note that the amount of money saved by negotiating over a lower interest rate is not equal to the entire savings. Thereby, the houseowner should determine the closing costs associated with re-financing and subtract this sum from potential savings. A negative number would indicate that new interest rate is not too low to offset the closing costs. Conversely, a positive number indicates an overall savings. Consequently, by considering this information the homeowner can decide whether he wishes to re-finance or not.
It is known as a fact, that houseowners who are re-financing their home for the first time may need a great deal of advice to assist them during the process. While homeowners can certainly research the process of re-financing by themselves, this can be a cumbersome task which is difficult, if not impossible. Although it may be possible that the houseowner may educate himself/herself enough to be informed of decisions, it may unreasonable to expect him/her to be in the know of the current information in the re-financing industry. Moreover, it would be unreasonable for homeowners to learn enough to make a definite decision regarding re-financing, though they may still require some guidance regarding which options are best suited for their needs.
Fortunately, there are two simple steps homeowners can take to comprehend the odds of obtaining the most favorable re-financing in their favor. These steps include consulting friends and family members who have recently financed as well as turning to industry experts for assistance.
Consult Friends and Family when Re-Financing
Believe it or not, consulting with family and friends is one of the first steps a homeowner should take in the refinancing process. Those reading this article might be somewhat confused by this suggestion due to the fact that in the previous section it was stressed that it would be virtually impossible for houseowners to thoroughly educate themselves on the re-financing process.
Afterwards, friends and family members who had recently re-financed their own home likely did a great deal of research and legwork before making their decision. They had also generated useful opinions, either negative or positive, about the lender they dealt with in the process. It is this information, which can be very helpful for those who are considering their own re-financing. Besides that, homeowners can obtain information regarding the best rates being currently offered by lenders along with a number of lenders which are easy to work with and responsive to the homeowners’ needs as well as the lenders who do not take a vested interest in helping the homeowner to succeed.
Ask Experts for Advice when Re-Financing
It should be emphasized that once it is decided to re-finance a property, consulting an expert in the re-financing industry is a must. These experts may have costly consulting fees associated with their assistance but most homeowners would agree on the fact that these fees are certainly worthwhile especially if results in a significant cost savings for the homeowner.
It has been previously stressed how the issues associated with re-financing can be quite complex and difficult for those outside of the industry to fully comprehend, however, those in the industry spend their days devoted to learning more about re-financing, keeping up to date with changes in the industry as well as new developments and figuring out how to best serve the customers. All of these characteristics make it clear that homeowners should really consider employing the services of a financial planner with a great deal of experience in re-financing when they are making decisions regarding the best re-financing option for their situation.
Consequently, friends and family members who previously consulted an industry professional can supply candid opinions about them and, as a result, will help homeowners save a lot of time by eliminating potential candidates with poor performance.
Interest only mortgages are known to be a relatively new phenomenon in re-financing and home buying industry. While the appeal of an interest only mortgage typically represents a greater monthly cash flow, this increased cash flow may result in hefty price tag. In exchange for more cash flow each month, the houseowner might sacrifice the ability to obtain a fixed rate mortgage as well as the ability to build equity. This article will further examine these features to provide the reader with more information on the subject of interest only mortgages.
Greater Monthly Cash Flow
Among the main advantages of interest only mortgage is the ability to increase monthly cash flow. Thus, homeowners who re-finance by utilizing an interest only mortgage are likely have more money available each month due to the fact that they will only be initially paying interest on their mortgage. Although, reduction of the principal payment can make it easier for the houseowner to either afford a larger house or have the ability to live more extravagantly on their budget. However, a significant price to pay for these types of re-financing options is often available.
While interest only loans may not be ideal, they can be beneficial in the situation where the homeowner is having a great deal fulfilling his monthly obligations. In this case, the homeowner may be willing to sacrifice an overall financial loss for the ability to continue to pay monthly bills in a timely fashion.
Unknown Risks of an ARM
Generally, interest only re-finance loans are offered with an adjustable rate mortgage, or ARM, which means the interest rate is not fixed and may fluctuate with the rise and fall of the prime index. Moreover, if the interest rate rises significantly, this risk can be quite costly for the houseowner. There is usually a cap placed on the amount, in terms of percentage, the interest rate can rise in a certain period but this can still be a very costly mistake made by homeowners.
Thereby, an ARM re-finance option with an interest only component may be worthwhile in some situations. For example, if the homeowner has a hybrid mortgage which features a fixed interest rate during the interest only portion and an ARM during the principal and interest portion of the loan, houseowner may benefit from this situation if he/she do not plan to stay in the house longer than the interest only period is, which, in its turn, may vary depending on the lender and the circumstances. Homeowners who plan to sell the property before the interest only period expires and the ARM period begins enjoy the benefits of lower monthly payments and the security of fixed interest rates before they ever have to worry about repaying the principal or dealing with the varying interest rates.
No Equity in the Home
Another disadvantage of the interest only re-finance loans is that they do not allow the houseowner to build equity in the property during the initial period where only the interest on the loan is repaid. This can be a problem for those homeowners who are looking to profit through the sale of their house. Thus, they may find that the participation in an interest only re-finance has had a damaging effect on the profit they are able to generate from the resale of their home.
In a modern society homeowners might consider re-financing with a home equity line of credit as opposed to a traditional loan. Anyway, these situations have both advantages and disadvantages. The key to understanding whether to implement re-financing with a home equity line of credit or not is worthwhile as it requires comprehension of what a home equity line of credit is, how it differs from a home loan and how it can be used. This article will briefly cover each of these topics to provide houseowners with useful information which may help them decide whether a home equity line of credit is ideal in their re-financing situation or not.
What is a Home Equity Line of Credit?
Generally, a home equity line of credit (abbreviated as HELOC) is a loan in which funds are made available to homeowner based on the existing equity in property. However, in this case, it is not really a loan but rather a line of credit. This means that a certain amount of money, which may be drawn according to this line of credit as funds are needed, is made available to the houseowner and time of these withdrawals is specified. This is known as the draw period. Additionally, there is a repayment period in which the homeowner must repay all of the funds he/she withdrew from the account during the draw period.
How Does a Home Equity Line of Credit Differ from a Home Equity Loan?
The difference between a home equity line of credit and a home equity loan is really quite simple. While both loans are secured based on the existing equity in the property, the manner in which the funds are disbursed to the houseowner is quite different. In a home equity loan the homeowner is given all of the funds immediately. However, in a home equity line of credit the funds are made available to the homeowner but cannot be immediately disbursed. Afterwards, there are limits to the amount which can be withdrawn and there is also a limit on time when funds can be withdrawn. Thus, any home equity has a draw and a repayment period and funds can be withdrawn during the draw period but must be repaid during the repayment period.
How Can a Home Equity Line of Credit Be Used?
One of the biggest advantages of a home equity line of credit is that the funds can be used for any purpose specified by the homeowner unlike the other loans such as an auto loan or even a traditional mortgage which have more restrictions on how the money lent to the homeowner can be used.
Thereby, common uses of a home equity line of credit include the following:
Home renovations or improvement projects
Opening a small business
Taking a dream vacation
Pursuing higher educational goals
Opening a small business
It should be noted that in some cases the interest paid on a home equity line of credit may be considered tax deductible. This may be applied to the situations where the funds are used to make repairs or improvements to the home. However, these expenses are not always tax deductible and the homeowner should consult tax professional before making any decision on the kind of interest payments which can be deducted.
Nowadays homeowner may ask himself/herself a question whether to re-finance or not. Re-financing is known as essential withdrawal of one home loan to repay an existing home loan. It is vitally important to realize when this is done properly it can result in a significant cost savings for the homeowner over the course of the loan. When there is the potential for an overall savings re-financing must be considered. There are certain situations which make re-financing worth-while. This article will examine each of these scenarios and discuss why they may warrant a re-finance.
When Credit Scores Improve
It is well known that there are a great number of home loan options available at the present time, that even those with poor credit are likely to find a lender who can assist them in realizing their dream of purchasing a home. However, such people may be offered unfavorable loan terms such as high interest rates or variable interest rates instead of fixed ones. This fact can be explained in the following way: the lender considers these homeowners to be higher risk than others due to their poor credit.
Fortunately, for those who possess poor credit, many credit mistakes can be repaired over time. Some financial blemishes such as bankruptcies simply disappear after a number of years while other defects such as frequent late payments can be minimized by maintaining a more favorable record of repaying debts and demonstrating an ability to repay existing debts.
Moreover, when a homeowner’s credit score considerably improves, he/she should inquire about the possibility of re-financing their current mortgage. All citizens are entitled to a free annual credit report from each of the three major credit reporting bureaus. Homeowners should take advantage of these three reports to check their credit annually and determine whether their credit has increased significantly or not. In case they notice a significant increase, they should consider contacting lenders to determine the rates and terms they may be willing to offer.
When Financial Situations Change
It should be noted that a change in the homeowner’s financial situation can warrant investigation into the process of re-financing. A houseowner may find himself making considerably more money due to a change in jobs or less money because of a lay off or a change in careers. In either case the homeowner should investigate the possibility of re-financing. He/she may find out that an increase in pay may allow them to obtain a lower interest rate.
Hence, a houseowner who loses the job or takes a pay cut as a result of a change in careers may hope to refinance and consolidate his/her debt. This may result in the homeowner’s paying more due to the fact that some debts are drawn out over a longer period of time but can result in a lower monthly payment for the houseowner which may be rather advantageous at this juncture of life.
When Interest Rates Drop
Thus, interest rates dropping may be understood as one of the signals that sends to many homeowners rushing to their lenders a warning to discuss the possibility of re-financing their properties. Lower interest rates are certainly appealing because they can result in an overall savings over the course of the loan but houseowners should also realize that every time the interest rates drop, a re-finance of the home is not warranted. The caveat to implement re-financing as well as to take advantage of lower interest rates are those options that the homeowner should carefully consider. Moreover, it is necessary to evaluate the situation to ensure the closing costs associated with re-financing do not exceed the overall savings benefit gained from obtaining a lower interest rate. This is significant because if the cost of re-financing is higher than the savings in interest, the houseeowner does not benefit from re-financing and may actually lose money in the process.
It may be concluded that the mathematics associated with determining these situations is not overcomplicated but there is the possibility that the homeowner will make mistakes in these types of calculations. Fortunately, there are a number of calculators available on the Internet which can help homeowners to determine whether re-financing is worthwhile or not.
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