Homeowners

Homeowners in Need of Cash: Choosing Between a Cash-Out Refinance or a Personal Loan

As a homeowner, you could be living in a metaphorical piggy bank.

Your home’s equity can be the capital you need to buy that vacation home, pay down high-interest debt, or start that renovation that will improve your quality of life.

You can tap into your home’s equity with a cash-out refinance of your mortgage. Plus, there are other options, such as personal and other types of loans. 

Your goals and financial needs should dictate which sort of loan you choose, said New American Funding loan consultant Pam Mathewson, who is based in Maple Grove, Minn.

Cash-out refinances and personal loans are both ways to access relatively quick cash. However, they have several key differences, including interest rates, the amount you may qualify for, and how quickly they can be completed.

A personal loan may be faster to qualify for than other types of home loans. But personal loans often have higher interest rates and add yet another payment when you may be cash-strapped already.

“If you’re swimming in debt, it doesn’t matter what your interest rate is. If you can’t make your payment, then you’ll fall further behind,” Mathewson said. “If you can wrap your debt into your mortgage with a longer [pay back schedule] and lower that payment, you can free up cash flow and use that extra money to become debt-free faster.”

What is a cash-out refinance? 

A cash-out refinance follows the same structure as a traditional refinance. Homeowners apply for a new mortgage at a new interest rate that is used to pay off their existing mortgage.

That’s because these loans offer the option of applying for more than the current balance. Those who qualify can receive the rest of the loan amount in a lump sum of cash to be used as they see fit. 

Completing a cash-out refinance requires many of the same steps as a traditional mortgage application or refinance. There can be loan origination fees, appraisal fees, and credit checks, as well as income verification requirements.

Mathewson says that the typical cash-out refinance can take about a month from start to finish. 

Cash-out refinances are essentially new mortgages. Their durations generally vary from 15 to 30 years.

Since they are secured by your home, their interest rates tend to be lower than a personal loan. The amount of cash you can withdraw is primarily determined by the equity you have in your home, but generally doesn’t exceed 80% of the market value of your property. 

Mathewson said that to justify the fees and paperwork involved, borrowers should turn to them if they need larger sums of money.  

“Most cash-out refinances withdraw a minimum of $50,000,” said Mathewson.

What is a personal loan? 

A personal loan is an unsecured loan that can be used for a variety of purposes. Personal loans are paid out in a lump sum and repaid in equal installments.

Since no collateral is used to secure a personal loan, lenders use your credit score and debt-to-income ratio (DTI) to determine your interest rate and the terms of the loan. This can result in higher interest rates. 

Personal loans may also come with fees, including origination and documentation fees, and late fees for overdue payments.

However, since there is no property securing the loan, there is no need for an appraisal.

Personal loans can also be approved and funded quickly, sometimes in as little as a day. 

Cash-Out Refinances or personal loans: The pros and cons

Both cash-out refinances and personal loans have their place. Let’s look at the pros and cons of a cash-out refinance: 

Cash-out refinance pros

• Cash-out refinances generally offer lower interest rates than personal loans. That means borrowers will owe less and have lower payments.
• Rolling debts into a single mortgage can create cash flow and eliminate multiple payments.
• FHA cash-out refinances can offer opportunities to borrowers with less-than-ideal credit.

Cash-out refinance cons

• Cash-out refinances are often slower to get approved.
• They may require more paperwork.
• They may not make sense for smaller loans.

Personal loans may be more appealing to borrowers who value speed. Let’s look at the pros and cons. 

Personal loan pros

• Personal loans often have faster turnaround loan times, sometimes in as little as 24 hours.
• These loans may be more affordable for those who don’t need a large sum of money.
• Personal loans often require less paperwork.
• There are often more options for those with lower credit scores.

Personal loan cons

• Personal loans typically have higher interest rates than cash-out refinances.
• The loans can have much higher interest rates for those with lower credit.
• They typically have shorter repayment terms.
• This adds another payment instead of eliminating one.

Is a cash-out refinance or a personal loan right for you? 

There’s no one-size-fits-all solution for large purchases or eliminating debt. Cash-out refinances and personal loans can both be good solutions, depending on your situation.

Make sure you thoroughly understand your needs and speak to a lender to determine the best loan for your situation.  

Pam Mathewson NMLS# 1795579