3 Situations to Take Advantage of a Cash Out Refinance

On the whole, a cash out refinance is a highly risky option. With this type of loan, you are taking an additional mortgage against your home. This second mortgage will convert a portion of the equity you have built up in the home back into debt. This reduces your total asset base and elevates your total debt base. In an emergency scenario, such as a job loss or illness, having a large asset base will protect you from bankruptcy. Without that protection, you may find you cannot cover your debts by simply selling your primary assets. Compromising your home equity is not a good idea in most scenarios, but you may take advantage of the option in a few unique situations. 

Improvement to Increase Equity

You may be able to forfeit your equity, temporarily, in order to grow your equity in the long run. When you refinance your home with a new loan and take a larger second loan, the cash can be spent on anything you like. Spending it on the home itself is the safest option to restoring equity. For example, if you have $200,000 left on your current mortgage for a home worth $280,000. You cash out with a $250,000, and you can put $50,000 into your home. This can mean adding a bedroom, refinishing floors and even repairing much needed maintenance items. At the end of the work, your home could be worth $335,000. Your equity rose $55,000 for your $50,000 of additional dent, meaning you actually profited by taking the new loan. This is risky, because not all improvements raise the value of your home this much. You still have the remaining debt to pay as well. However, in the right scenario, this option can work to your benefit.

Repayment of Other Debts

Taking a loan to repay debt is a very risky option. You are not actually reducing the total amount of debt you have, and you may even be extending the debt and payments. That said, it is possible you are facing default on a current loan or even have a highly unfavorable loan situation. Using your home equity can allow you to unload this bad debt and actually improve your financial situation. If the debt you would have against your house would be less detrimental than the debt you currently hold, consider taking a cash out refinance to pay off other debts.

Retirement and End of Life

Some people find they do not have enough savings to cover expenses during retirement but still own a very valuable home. In this situation, all of your equity is tied up in a piece of property while you are unable to live the life you would like. Older individuals often take a cash out refinance or reverse mortgage to gain liquidity immediately. Often, no payments are due until end of life, and then a life insurance settlement is used to cover the debt. Taking a cash out refinance in retirement does present inherent risks. If not paid off, it can be transferred to beneficiaries, meaning they will bear the burden of the debt.

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