You can withdraw as much as you want up to the credit limit during an initial draw period, usually up to 10 years; after that, withdrawals cease and you have to pay back what you've borrowed, plus interest.
A cash-out refinance is a mortgage refinancing option that lets you convert home equity into cash. With a cash-out refinance, you take out a larger mortgage loan, use the proceeds to pay off your existing mortgage and receive the remaining funds as a lump sum.
After the draw period ends, the repayment period begins: You're no longer able to withdraw your funds and you continue repayment. You have 20 years to repay the outstanding balance.
No. Cash-out refinances allow you to borrow the equity you've built in your home. Since the cash you receive from the refinance is technically a loan that your lender expects you to pay back on time, the IRS won't consider that cash as taxable income.
Home equity can be taxed when you sell your property. If you're selling your primary residence, you may be able to exclude up to $500,000 of the gain when you sell your house. Home equity loans, home equity lines of credit (HELOCs), and refinancing all allow you to access your equity without needing to pay taxes.
Cash-out refinances are first loans, while home equity loans are second loans. Cash-out refinances pay off your existing mortgage and give you a new one, while a home equity loan is a separate loan that's considered a second mortgage. Cash-out refinances have better interest rates.
Cash-out refinance cons
You owe more: Because you're taking out a larger loan amount, your overall debt load increases. No matter how close you were to paying off your original mortgage, the cash-out raises your debt level.
If you take out a $50,000 home equity loan, you will receive all of the money at once and pay interest on the full amount. With a HELOC, you can withdraw money whenever you need it.
Closing costs – A cash-out refinance comes with closing costs comparable to your first mortgage. Typically, you can expect to pay between 2% and 5% of the loan amount.
Key Takeaways
Home equity loans should only be used to add to your home's value. If you've tapped too much equity and your home's value plummets, you could go underwater and be unable to move or sell your home.
Home equity loans, home equity lines of credit (HELOCs), and cash-out refinancing are the main ways to unlock home equity. Tapping your equity allows you to access needed funds without having to sell your home or take out a higher-interest personal loan.
With a cash-out refinance, you'll pay the same interest rate on your existing mortgage principal and the lump-sum equity payment. Most lenders offer fixed interest rates so you can easily calculate your monthly payment.
A $50,000 home equity loan comes with payments between $489 and $620 per month now for qualified borrowers. However, there is an emphasis on qualified borrowers. If you don't have a good credit score and clean credit history you won't be offered the best rates and terms.
Home equity is the portion of your home's value that you don't have to pay back to a lender. If you take the amount your home is worth and subtract what you still owe on your mortgage or mortgages, the result is your home equity.
On the downside, HELOCs have variable interest rates, so your repayments will increase if rates rise. Another risk: A HELOC uses your home as collateral, so if you don't repay what you borrow, the lender could foreclose on it.
Getting approved for a cash-out refinance isn't difficult if you meet the lender's requirements. You'll need to have a minimum credit score of at least 620, at least 20% equity in your home, and a good DTI ratio. Additionally, you must typically have owned your home for at least six months before you can apply.
One of the primary benefits of refinancing is the ability to reduce your interest rate. A lower interest rate may mean lower mortgage payments each month. Plus, saving on interest means you end up paying less for your house overall and build equity in your home at a quicker rate.
If you like your home and neighborhood and you expect to stay for at least five years, refinancing is the better choice. However, if you're ready for a new environment (or this is a good time to downsize), selling may afford you more opportunities.
Is the Cash from a Cash Out Refinance Taxable? No, the cash you receive from a cash out refinance isn't taxed.
A minimum credit score of 620 is usually required to qualify for a home equity loan, although a score of 680 or higher is preferred. However, a lender may approve you for a loan with a lower score if certain requirements are met.
Home equity line of credit (HELOC)
For many, a HELOC is considered the cheapest way to get equity out of a house without having to restructure their existing mortgage. With a HELOC, you can draw funds as needed, repay them, and then draw again during the draw period, which can last up to 10 years.