A cash-out refinance happens when investors refinance a home in order to extract equity from the property. They take out a new loan to pay off their existing mortgage and, if the new loan is larger than the previous loan, they can use the difference to use as a rehab budget or to invest in other properties. A cash-out refinance essentially lets you unlock the cash in an illiquid investment.
A cash-out refinance, also known as a “cash-out refi,” can finance up to 80 percent of a property’s current appraised value. This means you need at least 30 percent equity in a property for a cash-out refinance to make sense. For example, a house worth $150,000 can be refinanced with a loan up to $112,500, derived as:
If your existing mortgage balance is at or higher than $112,500, then a cash-out refi would only make sense if you wanted to lock in a lower interest rate. Investors with existing mortgage balances below $112,500, however, can use the new loan to pay off the existing mortgage. For example, if your current loan’s principal balance is $100,000 and you refinance with a $112,500 loan, you would have $12,500 left over to invest elsewhere.
Therefore, the three important components of a cash-out refinance are:
Typically, investors apply for a cash-out refi and, if accepted, the lender and the title company will handle paying off the existing loan via a wire transfer. The borrowers then receive their excess funds in “cash,” which is usually in the form of a wire to their bank or a certified check from the title company.
A cash-out refinance is typically used by investors who have at least 30 percent to 40 percent equity in an existing investment property. These investors use a cash-out refinance to extract their equity and purchase either a new investment property or renovate an existing investment property. The new loan amount must be higher the old mortgage balance and the difference is pocketed in cash.
Looking to purchase, renovate, and flip a new investment property.
Looking to put a down payment on a new property or purchase it with all cash.
Looking to renovate an existing rental property.
There are no restrictions on how investors use the cash from a cash-out refinance, so that’s why it’s right for different investors. Therefore, the money earned on a cash-out refi can be used to renovate an existing long-term rental property in an attempt to increase its value and its rental income.
It can also be used to finance a short-term fix n flip project as well as a long-term rental property. The funds can also make it easier to compete with all-cash buyers for foreclosures or properties sold at real estate auctions. Regardless of intention, investors need an existing property in order to execute a cash-out refi.