Cash-out vs. rate-and-term refinance
Quick insights
- A cash-out refinance may allow homeowners to access the equity in their home as cash.
- A rate-and-term refinance might help reduce monthly payments or shorten the loan term without increasing the mortgage balance.
- Both refinancing options could involve closing costs and changes to interest rates, so it’s key to carefully evaluate the potential benefits and costs.
As a homeowner, maybe you want to renovate your kitchen, consolidate high-interest debt or finally tackle a backyard makeover. You’ve heard about mortgage refinancing but aren’t sure whether a cash-out or rate-and-term refinance makes sense for your unique financial situation. Understanding the differences between both loan products can help you decide which approach might fit your goals and lifestyle.
Understanding cash-out refinance
A cash-out refinance lets homeowners turn some of their home equity into cash by replacing their current mortgage with a new, larger home loan. You could use this refinancing option to cover larger purchases and expenses like home renovations, consolidating debt or covering unexpected costs. While a cash-out refinance can provide quick access to cash and possibly lower interest rates, it could also increase your mortgage balance and extend your loan term. As a result, you may pay more interest charges on your home loan over time.
How a rate-and-term refinance works
Instead of taking out additional cash, this refinancing option focuses on adjusting your mortgage terms to better align with your financial goals.
- Rate-and-term refinance involves changing your mortgage interest rate or loan term without taking out extra cash.
- It is primarily used to potentially reduce monthly payments or shorten the length of the loan.
- This approach can lower your interest rate, reduce monthly payments and possibly save money over the life of the mortgage.
Cash-out vs. rate-and-term refinance
The main difference between these refinancing options is that one provides you with cash as you refinance your mortgage (cash-out), and the other doesn’t (rate-and-term). Deciding between the two depends on your personal situation, home equity and plans.
Financial goals
- Cash-out: This may be an ideal option for borrowers who want to access home equity to pay for something, such as major expenses, home improvement projects, emergencies, consolidate debt, or more.
- Rate-and-term: This can help borrowers who want to save money as they pay off their home. A refinance could reduce monthly payments or shorten the loan term to potentially save more money on interest over time.
- Impact on mortgage
- Cash-out: Increases your mortgage balance, which could increase your monthly payment and likely affect your debt-to-income (DTI) ratio and loan-to-value (LTV) ratio.
- Rate-and-term: May lower your monthly payments or shorten the loan term without increasing the mortgage loan balance.
Eligibility
Both options usually require a particular amount of home equity, creditworthiness and closing costs. Qualification criteria and refinancing terms vary by lender.
When to choose cash-out vs. rate-and-term refinance
Choosing the right refinance option depends on your goals, how much equity you have in your home and broader market conditions. Take into account these key points:
- Cash-out considerations: Consider a cash-out refinance if you need extra cash for large expenses, home renovations or other investments where accessing home equity makes sense.
- Rate-and-term considerations: Rate-and-term may be the better choice if your goal is to lower your monthly payments, reduce interest over time or shorten your mortgage term without taking out more cash.
- Personal financial situation: Take a close look at your current financial situation, available equity in your home, DTI ratio, monthly income and long-term objectives to see which option aligns with your goals.
- Market conditions: Interest rates and housing market trends can influence whether refinancing now could be advantageous, so reviewing these factors is important before making a decision.
In summary
Both cash-out and rate-and-term refinance options may provide benefits depending on your financial situation and goals. Cash-out can offer access to home equity, while rate-and-term may help lower payments or shorten your loan term. If you’re looking to save on your monthly mortgage payment or shorten your loan term, a rate-and-term refinance might be a better fit. It’s a good idea to talk with mortgage professionals to understand how each option could impact your finances and which strategy might be a good fit.
