Is a cash-out refinance a good idea?

By Lisa Rinkus | Citizens Staff

The idea of getting an easy infusion of cash from refinancing your home can be appealing. Thoughts of vacations, a pool, gym equipment, a new kitchen and other dreams may dance in your head, but taking out extra money can set you back. By doing so, you may end up extending the terms of your mortgage and your monthly payment. So, while it would be great to purchase some things you’ve been eyeing for a while, a cash-out refi requires careful consideration.

A cash-out refinance loan (aka “cash refi”) is when you refinance your existing mortgage for more than you owe and take the difference in cash. Essentially, it’s two transactions in one:

1. Cash-out (borrowing against your home’s equity)
2. Refinance (replacing your original mortgage at a better rate)

You’ve got equity: Refinancing your home and taking out extra cash makes sense if you need money for something essential. If you’ve got a lot of equity built up in your home, the cash you can acquire from tapping into it may give you some breathing room to take care of unexpected, critical matters. Here’s an example. Let’s say you need major surgery. Your older child is nearing college age, the roof needs replacing, and your car is on its last legs (er, wheels). Fortunately, you and your spouse have lived in the same home for 20 years and it’s worth more than five times what you paid for it. You both also have excellent jobs. Not only that, when it’s time to downsize, you’ll get all of your money back and more when you sell the house. In this scenario, a cash-out refi makes sense. An added bonus? Any extra money from the refi can be set aside for an emergency fund.

If you think you need to refinance to get extra money, but your interest rate will go up, there are other options available that may make financial sense, such as a second mortgage. By taking one out (in the form of a home equity line of credit or a home equity loan) you’ll be paying more interest, but on a lower amount of money.

You’re moving up: If you’re short on money, but you are about to get a better paying job (say you are getting an advanced degree in a lucrative field), a cash-out refi may make sense. You can use the cash to pay necessary expenses, and you’ll soon have more money coming in, so you won’t have a problem paying back the loan. (And once you get that high-paying job, you may even decide to do another refi at a better rate.)

A home is not a piggy bank: So, you want to take a cruise or buy a hot tub, but you don’t have the cash. You decide to do a cash-out refi in which you borrow more than you need for your mortgage and take out a lump sum of money that you’ll owe interest on. (This is in addition to the interest you’ll be paying on your refinance loan.) Most industry experts say this is a bad financial move, because you are using your home as a piggybank.   

To support bad habits: Taking out cash with your refi isn’t wise when you want to use the cash to pay off other loans, or if your spending is out of control. Research has shown that people using borrowed money to pay off credit cards, for example, end up back in the same boat later. Pair that with not having a lot of equity in your home and you’ll have a disaster on your hands.

If it ain’t broke, don’t fix it: In other words, if you don’t need the money, don’t do it. On the other hand, if some extra cash is important to you as a financial cushion, you could open a home equity line of credit (HELOC) instead. The money will be there when you need it, and you’ll only pay interest on what you use.

Do the math: Before deciding to tap into your home’s equity for cash (equity is calculated by subtracting your mortgage balance from the value of your home), compare all your options. If, over time, a cash-out refinance would cost more than keeping your current mortgage (on top of having to pay the extra interest from the cash-out refi), it may not be a wise financial decision. Of course, if you need the money for health care, tuition, or another necessary expense, you may not have a choice. What you want to use the money for will determine if doing a cash-out makes sense.

The convenience of refinancing and tapping into your home equity in one transaction may be worth it for you. However, before you go for it, review your financial picture. Make sure you’re weighing all the pros and cons before making a decision. When you refinance with Citizens, you get a loan suited to your needs, expert advice each step of the way, and one of the lowest rates around.

Now that you’re armed with more info, decide if a cash-out refi will move you along in your financial journey. A dedicated loan expert will be assigned to your account to help you every step of the way. They’ll help you navigate the ever-changing environment and make sure you’re making the best decision with one of your most valuable assets, your home.