Cash-out refinancing your current mortgage to buy a second home
Equity from your existing home can be a great way to buy a vacation home or investment property.
Many homeowners cash out home equity to make a down payment on their next property. Others may have enough equity to pay the entire purchase price in cash.
The benefit of using a cash-out refinance to buy a second home is that you can finance all or part of it at the ultra-low rates that come with primary home financing.
But for this strategy to work, you need to qualify for a cash-out refinance — and you need plenty of home equity.
In this article:
Using a cash-out refinance to buy a second home or investment property
One way to buy a vacation home or to finance a real estate investment opportunity is by using the equity in your primary residence.
With a cash-out refinance, you can take out up to 80% of the equity in your existing home and use the funds to purchase a new house. You might also refinance into a lower interest rate at the same time.
But there are a few basic things you should know before you go this route.
- Your eligibility to take out a new loan depends on the amount of your home equity and your credit score
- If you want to buy and then sell or refinance one of the homes, consider a bridge loan
- In some cases, a home equity loan or HELOC might be the most affordable and fastest choice
To find out whether you’re eligible for a cash-out refinance — and how much money you could pull out — click the link below.
Cash-out refinance eligibility: How much equity do you have?
At first, it may seem that the equity issue is simple. You bought a house for $150,000, and it’s now worth $275,000.
You’ve paid down principal, too, so your current equity is $190,000.
So, can you really get a check for almost $190,000 from lenders?
The short answer is, no.
Lenders generally will allow cash-out refinancing equal to 80% of your equity. They will see a property value of $275,000 and subtract 20% ($55,000). That will leave around $220,000. This money will be used to first repay the existing loan of $85,000.
The balance – $135,000 – represents the cash available to the borrower.
With some loan programs, you might do better.
However, these programs come with various charges and insurance costs that many borrowers with equity will want to avoid.
Cash-out refinance rules
Taking a cash-out refinance to buy an investment property or second home is one of the best ways to put your equity to use, and it’s a common investment strategy used by some real estate investors.
While lenders establish their own rules when it comes to eligibility for a refinance loan, there are some general cash-out rules that borrowers can expect to see.
Home equity of 20% or more
Homeowners will need at least 20% equity in their primary residence to qualify for a cash-out refinance.
Credit score of 620 or higher
On a traditional mortgage refinance, you may qualify with a minimum credit score of 580 via the FHA loan program. But with a cash-out refi, you’ll typically need a credit score of 620 or higher no matter which loan program you use.
Debt-to-income ratio of 50% or less
Many mortgage lenders require a borrower’s debt-to-income ratio to be less than 50%. Your DTI is the amount of monthly expenses divided by your total monthly income. So if you pay $2,000 each month for household expenses and mortgage payment, and your income is $5,000 per month, then your DTI is 40%.
Loan-to-value ratio of 80% or less
Your loan-to-value ratio (LTV) is a comparison of your current mortgage with the appraised value of your home.
If your existing loan balance is $140,000 and your home appraises for $200,000, then your LTV would be 70%.
Lenders use LTV to determine whether or not to approve a refinance loan.
Other common cash-out requirements
Additionally, most homeowners will need to provide verification of income and employment, as well as a new appraisal that verifies the value of their real estate.
How soon can you get a cash-out refinance loan?
Many homeowners wonder how long they have to hold their current mortgage before they’re eligible for a cash-out refinance.
If you have a conventional, FHA, or VA mortgage, most lenders require a 6-month waiting period after closing on the first mortgage before taking out a cash-out refinance.
With FHA and VA loan programs, you’re also eligible for a Streamline refinance, and you’ll generally need to wait for 210 days before refinancing. However, these loans do not allow cash back at closing.
A USDA refinance could require a 6-12 month waiting period, and USDA loans never allow cash-out. Read more about refinancing waiting periods.
Cash-out refinance to buy an investment property
In terms of real estate investing, you can use real estate equity to immediately buy a second home or to purchase an investment property.
As soon as you close the cash-out refi, you can use those funds as a down payment on another home — or to buy the house outright — if you plan to keep the current home as your primary residence.
That means you’ll keep living in the house you’re cashing out, and only use the second home as a vacation property or investment.
Cash-out refinance to buy a second home
However, with cash-out refinancing or a home equity line of credit (HELOC), you generally cannot use such funds to instantly buy a new primary residence.
How come? There aren’t any restrictions on the use of cash-out funds.
However, cash-out refinancing and HELOCs generally have a clause that says you expect to remain in the property for at least a year.
This means you cannot get a check at closing and buy a second home the following week. That would be a violation of the mortgage terms. Violate the rules, and the lender has the right to call the loan and demand immediate repayment.
For details and specifics speak with lenders about your options.
Alternatives to cash-out refinance for buying a second home
You can certainly use a HELOC to pull equity out of a home. There are typically few upfront costs. It’s like a credit card. During the first few years of the loan term, you can take money out and put it back.
However, a HELOC has several drawbacks.
First, the interest rate is likely to be adjustable rather than fixed.
Also, a second mortgage typically has a higher interest rate than a first mortgage. How much higher depends on your credit history, the new loan amount, location, and equity.
Finally, you have to watch HELOC balances to avoid steep monthly costs.
HELOCs are typically structured with two phases:
- The drawing phase. You can draw money out and put money back in. You make interest-only payments on the balance.
- Repayment period. You can no longer draw money out and must repay the balance over the remaining term of the loan. If you have a big HELOC balance, the result can be large monthly repayment costs.
While cash-out refinancing and HELOCs may not be structured to help with the purchase of a second home, that’s not the case with bridge loans. A bridge loan is specifically designed to help you move equity from one residence to the next.
The great attraction of a bridge loan is that it’s intended to be short-term financing. It might be outstanding for just a few months. You don’t have to make monthly payments.
There are also downsides. Bridge loans often have higher interest rates — maybe two percent above typical mortgage rates. Also, there can be a lot of upfront fees.
Still, a bridge loan will do the job if you want to purchase a replacement home. When you sell your current residence, the bridge loan will be paid off at closing. The cost does not carry over to the new property.
Using a cash-out refinance to buy investment property or a second home FAQ
Yes, you can use the equity in your current home to buy a second home. Many people do this by taking a cash-out refinance on their house, and using the withdrawn money to make a down payment on a second mortgage or pay for it with cash. But you could also tap your equity and buy a second property using a home equity loan or line of credit (HELOC).
When you do a cash-out refinance, you usually have to leave 20% equity in the home. That means you can only take out enough cash that your total loan amount equals 80 percent of the home’s value. For example: If your home is worth $250,000, and you owe $150,000 on the existing mortgage the most cash you could get out would be $50,000. ($50,000 + $150,000 = $200,000, which is 80 percent of $250,000.)
It’s possible to use a cash-out refinance on your home to buy an investment property. You could use the withdrawn money to make a down payment or buy the investment property with cash. And you can do this as soon as the refinance closes. However, you still have to meet your lender’s minimum credit score requirements for refinancing. And you’ll likely need a fair amount of equity in your current home, as lenders usually require 15-25% down to purchase an investment property.
If you plan to buy a vacation home or an investment property, you can buy as soon as your refinance closes and you have the cash in hand. However, you cannot buy a separate primary residence using a cash-out refinance and then move into it right away. That’s because lenders usually require you to stay in your current home for at least a year, if you’re getting cash out on it. But you could convert your primary residence into a rental and get a cash-out loan based on non-owner-occupied mortgage rates and rules.
If you’re using a cash-out refinance, you’ll get the funds once the loan closes. Closing a refinance takes about 35-45 days on average.
Yes, you can pull equity out of a rental property using a cash-out refinance. In fact, many investors take equity out of their rentals to make home improvements or buy new rental properties. You just need to have enough equity to leave at least 25% in the property. And you’ll also need to meet the lender’s credit requirements.
Shop cash-out refinance rates today
Mortgage lenders are eager to work with you to find the best solution.
Get quotes from the nation’s top lenders and shop for a lower rate on a new mortgage loan — whether you are getting a cash-out, HELOC, or other loan type.