Are you a homeowner with an FHA loan in need of extra cash? If you have a sizable amount of equity in your property, an FHA cash-out refinance could be a viable option. It lets you pull equity from your home and convert it into funds you can use however you see fit. Here’s what you need to know about this mortgage product, along with the key benefits, drawbacks, eligibility guidelines, and how to decide if it’s a good fit for your financial situation.
What Is an FHA Cash-Out Refinance?
The FHA cash-out refinance program is a versatile option for homeowners with an FHA mortgage. It allows you to tap into your home’s equity and obtain cash by refinancing your current mortgage.
Borrowers can use funds to cover the cost of home improvements, consolidate high-interest credit card debt, or pay off education and medical expenses. You can also use the funds for financial emergencies or big-ticket purchases, as no spending restrictions exist.
When you opt for an FHA cash-out refinance, you replace your existing mortgage with a new, larger loan. The difference between the new loan and the remaining balance on your current mortgage is paid out as cash.
FHA Cash-Out Refi vs. Traditional Refinance
Both options can help you achieve your financial goals. Still, there are differences to be aware of before deciding which is best, including:
- Loan Eligibility: FHA cash-out refi is available for homeowners with FHA loans, while traditional refinance is for those with conventional loans. In general, the requirements for qualifying for an FHA loan are more lenient than for a conventional loan.
- Interest Rates: An FHA cash-out refi may have a slightly higher interest rate than a traditional refinance. However, FHA rates are generally more competitive than conventional loan rates.
- Loan-to-Value (LTV): FHA cash-out refinance allows for a higher LTV compared to conventional cash-out refinance. With an FHA cash-out refi, you can borrow up to 85 percent of your home’s value, while a conventional loan typically limits you to 80 percent LTV.
- Mortgage Insurance: FHA loans require both an upfront mortgage insurance premium (MIP) and an ongoing annual mortgage insurance premium (MIP). Conversely, conventional loans only require private mortgage insurance (PMI) if your LTV exceeds 80 percent. The PMI can be removed once your LTV falls below 80 percent, but MIP is generally required for the life of the loan.
Can You Get a Cash-Out Refinance on an FHA Loan?
Yes, you can get a cash-out refinance on an FHA loan. Keep in mind that it’s insured by the Federal Housing Administration (FHA), which means it comes with specific guidelines for prospective borrowers.
Is the FHA Cash-Out Program Legitimate?
Yes, the FHA cash-out refinance program is a legitimate and valuable option for homeowners looking to access their home equity. FHA-approved lenders are required to follow strict guidelines set by the agency to ensure borrowers are protected. These guidelines include verifying income, credit and employment to ensure you can comfortably afford the new loan.
While the FHA cash-out program is legitimate, it’s essential to be cautious of potential scams or predatory lenders. Always verify the credentials of any lender you’re considering, and don’t hesitate to seek advice from HUD-approved housing counselors or professionals in the industry.
Also, remember that reputable lenders will transparently disclose all fees and costs associated with the refinance. Make sure to carefully review the loan estimate before formally applying for a mortgage.
How Much Can You Get from a FHA Cash-Out Refinance?
As mentioned above, the FHA allows a maximum LTV ratio of 80 percent for an FHA cash-out refinance. This means you can potentially borrow up to 80 percent of your home’s value, including your current mortgage balance and the cash proceeds you’d like to receive.
To illustrate, assume your home is worth $300,000 and you currently owe $200,000. You could potentially access up to $40,000 in cash ($300,000 * .80 – $200,000). The actual amount you’re approved for will depend on several factors, including your credit score, income and debt-to-income (DTI) ratio.
It’s important to note that if you have an existing FHA mortgage and do not need to access additional cash, an FHA streamline refinance might be a more suitable option. This type of refinance offers a simplified process with fewer documentation requirements and faster approval times. However, with an FHA streamlined refinance, you cannot receive any cash out from your home’s equity.
Advantages of an FHA Cash-Out Refinance
There are several features of these mortgage products that make them attractive.
More Cash in Hand
You can access a larger portion of your home’s equity by opting for an FHA cash-out refinance. The extra funds can help improve your financial situation and allow you to make significant investments in your future.
Reduced Credit Requirements
The FHA cash-out refinance program is more lenient regarding credit score requirements than traditional refinancing options. This is beneficial for borrowers who may not have an exemplary credit history but still want to refinance their mortgage.
Lower Interest Rates
With a lower interest rate, you can save a sizable amount on your monthly mortgage payments. These savings can add up, ultimately helping you maintain financial stability and make other necessary investments.
Flexibility
This loan offers flexibility in terms of how you can use the funds. Unlike other loan types with specific restrictions, the cash you receive from an FHA cash-out refinance can be used as you see fit. This level of flexibility empowers you to make the best financial decisions to suit your individual needs.
Consolidation of Debts
Another advantage of an FHA cash-out refinance is the opportunity to consolidate high-interest debts. By refinancing into a new FHA loan with a lower interest rate, you can pay off costly debts and streamline the debt-management process. Plus, you could improve your credit rating.
Disadvantages of FHA Cash-Out Refinance
As with any debt product, there are also drawbacks to consider.
Potential for Higher Costs
Refinancing with an FHA cash-out loan often comes with a higher upfront mortgage insurance premium (MIP) and ongoing annual MIP payments. This can make your new loan more expensive in the long run. Furthermore, the costs of refinancing, such as origination fees and closing costs, are typically higher for FHA loans compared to conventional loans.
Risk of Foreclosure
Another potential downside of an FHA cash-out refinance is the risk of foreclosure. By using the equity in your home to secure more funds, you’re increasing the amount you owe. If you face financial difficulties and fall behind on your mortgage payments, you risk losing your home.
Longer Loan Repayment Period
Be aware that an FHA cash-out refinance can result in a longer loan repayment period. Since you’re refinancing your current mortgage and taking out a new loan, this often means that you’re resetting the clock on your loan term. Doing so means you’ll spend more time paying off your mortgage and more interest over the life of the loan.
Qualifications for an FHA Cash-Out Refinance
Wondering if you’re eligible for an FHA cash-out refinance? Below are some general guidelines to be aware of.
Minimum Credit Scores
You’ll need a credit score of at least 580. However, some lenders require a 620 or higher for approval.
Equity Requirements
Equity is a factor when considering an FHA cash-out refinance. You must have at least 20 percent equity in your home to qualify.
Loan-To-Value (LTV)
As mentioned, the maximum LTV allowed for this type of loan is 80 percent. This means the new loan amount, including the cash-out portion, should not exceed 80 percent of the appraised value of your home.
Length Of Residence
Before applying, you must occupy the property as your primary residence for at least 12 months. This requirement gives the lender assurance that you are not taking advantage of short-term fluctuations in the housing market.
Payment History
Your payment history plays a vital role in determining your eligibility for an FHA cash-out refinance. You must have a good payment history, which means no late mortgage payments within the last 12 months and no more than one 30-day late payment within the past 12 to 24 months.
How to Apply for an FHA Cash-Out Refinance
When you’re ready to move forward, here’s what to expect.
Documentation Requirements
Most lenders will request the following documents:
- Proof of income: Pay stubs, W-2s, or tax returns from the past two years.
- Proof of assets: Bank statements and investment account statements, if applicable.
- Appraisal Report: An FHA-approved appraiser must evaluate your property to determine its current market value.
- Homeownership Documents: Mortgage statement, property tax information and homeowners insurance declaration page.
Gather these documents in advance to help streamline the application process.
Cost and Fees Associated with FHA Cash-Out Refinance
Some common fees include upfront mortgage insurance premiums, annual mortgage insurance premiums, lender origination fees, appraisal fees, and title and closing costs. The specific amounts vary, so it’s a good idea to compare the fees and costs from multiple lenders to ensure you’re getting the best deal.
Step-by-Step Application Process
Here’s a step-by-step guide to formally apply for a loan:
- Assess your financial situation: Review your credit scores, income, debts and the potential benefits of cash-out refinancing.
- Gather required documents: Compile all necessary documentation to help facilitate a quick and smooth application process.
- Research FHA-approved lenders: Find lenders that offer FHA cash-out refinance programs and compare their terms, interest rates and fees.
- Apply with multiple lenders: Complete the application and submit the required documentation to obtain loan estimates.
- Compare Loan Estimates: Analyze each loan offer’s interest rates, closing costs and terms to determine the best option for you.
- Choose a lender: Select the lender that offers the most favorable terms and proceed with the application.
- Get your home appraised: Schedule an appraisal with an FHA-approved appraiser to determine your property’s market value.
- Go through underwriting: The lender will review your application and verify all documentation to determine final loan approval.
- Close the loan: Once approved, sign the loan documents and pay any closing costs required to finalize the process.
The Bottom Line: Is it Worth it to Refinance Out of an FHA Loan?
The decision to refinance out of an FHA loan depends on your unique situation. Be sure to evaluate the potential benefits and drawbacks to make an informed decision. Also, take the time to analyze your current financial situation, borrowing needs and long-term financial goals.
