I’m doing a cash-out refinance on my house. Is this something you should do?
With the average 30-year fixed mortgage rate under three percent and home values rising in the Phoenix area by 30% in the past year, now is a perfect opportunity to convert your home’s equity to cash.
I purchased my house in February 2020, right before COVID-19 and the collapse in interest rates. I still have a good rate—3.375 percent—but I locked in my new rate at 2.75 percent. Plus, I did not put down 20% when I bought the house, so I am able to get rid of PMI during my refinance since I now have the needed equity.
Is it wise to take cash out of your house?
Is this a wise financial move? After all, if you increase the amount of your loan, you often end up paying more interest over the life of the loan.
I am a huge proponent of taking equity out of your house in this environment of ultra-low rates and high equity. This allows you to leverage your money for next to nothing while improving other areas of your finances.
I wrote about switching from a 15-year mortgage (on a previous house) to a 30-year mortgage when I purchased my current home. My mindset now is the same—maximize my dollars today so I can allocate them in the best way possible. Dumping excess cash flow to pay off a mortgage at the low end of three percent didn’t make sense then, nor does keeping wealth in a house when I can borrow against it for 2.75 percent.
The environment we are in makes this scenario attractive. What should you do with your home’s equity and why consider a cash-out refinance?
Reasons to consider a cash-out refinance
You can move quickly to the next financial stage
We find that people move through three stages of finances:
- Stage 1: taking control by getting out of debt, budgeting, and creating margin
- Stage 2: getting familiar with saving and investing
- Stage 3: optimizing wealth and cash flow for the greatest impact
Progressing through these stages takes time and money. A cash-out refinance can help you move to that next stage (and move quickly).
What financial goals are you working toward? Would any of them be aided by an influx of cash? This could be paying off other debt or simply funding a non-qualified investment account.
Investing home equity proceeds can be very profitable, especially with a low hurdle of the cost of capital. If mortgage rates were higher, then you have a higher cost, which makes investing less attractive. While investing doesn’t come with guarantees, many feel confident in their ability to generate long-term returns above three percent.
You can free up cash flow
Even if you aren’t investing your loan proceeds, a refinance can still be beneficial.
I am not planning to invest the cash I get from my refinance. Instead, I have numerous home projects I would like to complete. As a result, the money I’m taking out is costing me, not gaining returns in an investment account—that’s okay. Without it, I would be funneling my excess cash flow to saving up for these house projects and who knows how long that would take.
That’s why a refinance is still beneficial. I can pay for the projects now, and I can use my monthly cash flow to invest instead of having to save it for the house.
Your monthly payment might not increase
A lot of people would be surprised at how affordable a cash-out refinance can be. It depends on your situation and includes several factors, such as:
- Your old rate versus your new rate
- How much cash you are taking out
- How long your new loan term will be
- If you will be getting rid of PMI in the process
Say you got a $350,000 mortgage two years ago at 3.5 percent. Your monthly payment (principal and interest) is $1,572. Now, you can get $50,000 out with a 30-year refinance. Your current balance is right around $335,000. With loan costs and $50,000 cash out, you get a new mortgage balance of $390,000.
At three percent, a new 30-year mortgage will cost $1,644 per month—an increase of only $72 per month! Would you rather have $50,000 or a savings of $72 per month?
What if you recently refinanced your house?
A lot of people did a “rate and term” refinance (no cash out) when interest rates plummeted after COVID-19. If this is you, you might want to think twice about doing yet another refinance, especially so soon after your first one.
I wouldn’t let this be a reason not to refinance now. If it makes sense financially, go ahead. The amount you spent on your previous refinance is a sunk cost, meaning the expense you already incurred should be irrelevant to whether you refinance today. In fact, I’ve seen people take advantage of low rates in 2020 to do a refinance and after seeing their housing values skyrocket in 2021, these same people are doing another refinance, this time to take cash out.
Of course, the numbers have to add up and it may not make sense for everyone. If this sounds intriguing to you, schedule a time to connect with one of our mortgage advisors. They will review your current situation, put your needs first, and provide wise advice.