The Veridian Blog

A cash-out loan, more than ever, is a red-flag risk that demands higher returns for lenders and their investors.  Thus, mortgage rates are usually higher and/or more expensive for cash-out loans. 

A loan is characterized as cash-out whenever the borrower receives more than 2% or $2000 (whichever is lower) from the loan transaction.  This may not always spell disaster in the form of higher rates for the borrower, however.  As long as the LTV is under 80%, there is usually no additional add-on in fees or rates for conforming cash-out loans of $417,000 or less.  When you start to borrow beyond $417,000, then loan-to-value (LTV) ratio and credit FICO scores determine what the add-on is, if any.  The guidelines become most severe when the loan amounts increase to the Jumbo category beyond $729,750.  Not only could there be an add-on, but you may be completely precluded from taking cash out under high LTV or low FICO profiles.  LTV Is so critical these days and this is just one aspect of the importance of having significant equity.  In any scenario, the lender may also impose cash out limits of anywhere from $200,000 to $500,000.  During the refi boom, that number was probably even higher. 

A loan may also be characterized as cash-out when consolidating a 1^st and 2^nd mortgage.  In order to avoid the determination, the 2^nd mortgage must almost always be purchase money (ie. It was originated during the purchase transaction), or the 2^nd mortgage must be seasoned for a minimum of 12 months.  Seasoning simply means the borrower has been in good standing for 12 months and that for equity lines, there has been no draws during the same period.

The cash-out “trap” is something that all prospective home buyers should be aware of.  For example: a buyer puts down a 50% down payment.  One week after close of escrow, he decides he wants to proceed with a home improvement project by refinancing and taking cash out.  Even though the money was his 7 days ago, suddenly the loan terms will necessarily change for the worse because it is now a cash-out loan.  Therefore, it is vitally important to put the correct down payment amount that takes into consideration account maintenance of reserves and potential home improvement projects.   If unknown, we tend to recommend putting the least down payment that will yield the best interest rate.

Similarly, when refinancing, we advise all clients to refrain from making large principal payments late in the refinancing process.  To do so means you will be borrowing more than you owe - enough to trigger the cash-out characterization and worsen your loan terms in the blink of an eye.  If you are fortunate to have a cash windfall, simply wait until close of escrow of the new loan and then make the principal reduction.

For more cash-out scenarios and recommendations, please contact us!