Cash out refinancing (in the case of real property) occurs when a loan is taken out on property already owned, and the loan amount is above and beyond the cost of transaction, payoff of existing liens, and related expenses.
Strictly speaking, all refinancing of debt is “cash-out,” when funds retrieved are utilized for anything other than repaying an existing loan.
In the case of common usage of the term, cash out refinancing refers to when equity is liquidated from a property above and beyond sum of the payoff of existing loans held in lien on the property, loan fees, costs associated with the loan, taxes, insurance, tax reserves, insurance reserves, and in the past any other non-lien debt held in the name of the owner being paid by loan proceeds.
Example of Cash Out Refinancing
A homeowner who owes $80,000 on a home valued at $200,000 has $120,000 in equity. That equity can be liquidated with a cash-out refinance loan providing the loan is larger than $80,000.
The total amount of equity that can be withdrawn with a cash-out refinance is dependent on the mortgage lender, the cash-out refinance program, and other relative factors, such as the value of the home.
How does a cash out refinance differ from a home equity loan?
- A home equity loan is a separate loan on top of your first mortgage.
- A cash-out refinance is a replacement of your first mortgage.
- The interest rates on a cash-out refinancing are usually, but not always, lower than the interest rate on a home equity loan.
- You pay closing costs when you refinance your mortgage.
- Generally, you don’t pay closing costs for a home equity loan.
- Closing costs can amount to hundreds or thousands of dollars.
The opposite, “Rate-and-term” refinancing occurs when a better note rate, better loan terms, or both become available to an owner which restructures their debt portfolio as it relates to liens held against a subject property. Consolidating multiple loans into one loan without extracting cash is also a rate-and-term.
Loan-to-value limits, and other factors in loan approval determine how much cash can be taken out from the equity of any one property.