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Is a Cash Out Refinance a Good Idea?

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Is a Cash Out Refinance a Good Idea

If you want to tap the equity in your home, cash out refinancing is one way to go about it. Essentially, you obtain a new mortgage that pays off your existing one and provides you with additional money. Then, you can use that cash to handle other things, like paying off debt, making a major purchase, or covering home improvements. While a cash-out refinance can seem like an attractive option, it isn’t without risk. Before you go forward, here’s a look at why it may or may not be a good idea.

What a Cash Out Refinance Involves

Cash-out refinancing is similar to getting a traditional mortgage. The application process is essentially the same. You contact a lender and submit an application. A lender will review your financial details – including everything from your income statements, tax returns, and credit report and scores — and they decide if you qualify for the new mortgage.

The main difference is that, instead of just requesting enough financing to cover the remainder of your mortgage, you ask for additional money. The new loan is larger than your existing mortgage. Not only does it cover what you owe on your current loan, but it also allows you to receive cash back when it is approved, processed, and closed.

What You Can Do with the Money

With a cash-out refinance mortgage, only some of the money goes to specific things. First, the new lender typically pays off your original mortgage using funds from the new loan. This ensures that the old mortgage is paid in full.

Second, depending on your financial situation, your new lender may require that some of the money goes to pay certain other debts. This is more common if your existing debt load is high (based on your income) and if you have to pay at least a portion of it down to qualify for the loan. When this occurs, the lender commonly pays those creditors directly with some of the loan, guaranteeing that it gets handled.

Finally, any remaining funds are sent to you. Usually, the new lender sends the cash to your bank account as a direct deposit or issues you a check that you can take to your bank. You can use this money on essentially anything you want.

How a Cash Out Refinance Impacts Your Credit

As with any new loan, a cash-out refinance does impact your credit. A hard inquiry against your credit report is part of the process which does affect your score whether you are approved or not. Additionally, you will have a larger mortgage loan on your credit report after it goes through. Finally, since your existing loan is older, the average age of your accounts will change once the new mortgage is reported.

However, how you use the money you receive can also impact your credit score. For example, if you use the additional funds to pay off certain debts, like credit cards or other loans, your credit score will change because of that as well. Your score may go up or down depending on the choices you make.

Is a Cash Out Refinance a Good Idea?

In most cases, a cash-out refinance is only a good idea if you will come out financially ahead in the end. If you use the money for home improvements, the investment could increase the value of your house. Many consider this a solid financial move in the long run. However, it only works out in your favor if the improvements are desirable in the eyes of potential buyers, as that determines the end value of the work.

Using the additional cash to pay off other debts can also be a wise financial decision. You may be able to decrease your monthly bills, improve your credit score, or both. Ideally, you only want to use the money to pay down debts if the interest rate on your new mortgage is lower than the ones associated with the other debts. That allows you to experience the greatest financial benefit, so focusing on high-interest credit cards or loans is the best approach in many cases. However, paying off debts to make your monthly budget easier to manage could still make it worthwhile.

Potential Uses of the Money

There are also other potential uses for the additional money that might be smart, depending on your circumstances. Using the cash to fund further education can be wise if you are reasonably sure that it will boost your income enough to justify the expense. However, there are alternatives for paying for education that could be better financial options.

Similarly, using the money to fund a business venture may or may not be a great idea. Starting a business is always risky, and many fail, so you need to make sure you can still repay the mortgage even if things don’t go to plan.

Using the cash to fund a vacation or large purchase also may or may not be a smart move. That depends on how sound your financial situation is otherwise, such as whether you have a healthy emergency fund in place, are actively saving for retirement already, and don’t have any high-interest debts.

Ultimately, a cash-out refinance can be a good idea, but only if you use the money wisely. If not, then you could be making your financial situation more precarious, and that could lead to hardship down the road.

Have you ever done a cash out refinance? Why did you think it was the right move for you? Share your thoughts in the comments below.

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The New Banking Law Could Have Benefits for You

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dodd-frank reform 2018

In what some consider the largest legal change to financial regulations since the original 2010 passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act, the Dodd-Frank Reform 2018 legislation rolls back some of the regulations in the original legislation. Functionally, the Dodd-Frank Reform 2018 legislation is an adjustment to the original. The good news is that some of the changes may benefit consumers.

What is the Dodd-Frank Reform 2018 Act?

In essence, the Dodd-Frank reform bill is an overhaul of the version that passed in 2010. Certain provisions in the original remain in full effect, but there have been some adjustments and eliminations.

Both versions of the Dodd-Frank act focus on banking regulations. The first was a response to the financial crisis that rocked the U.S. economy back in 2008. It focused on a variety of issues, including the risky mortgages that led to a larger crash. It also focused on points relating to financial institutions deemed too big to fail.

The Dodd-Frank Reform 2018 legislation is an easing of many of the rules featured in the original bill. However, they aren’t universally applied. Small to mid-size lenders will benefit from the changes. Some of the country’s largest institutions will still be subject to the original regulations.

With the new law, a “small bank” is a financial institution with less than $250 billion in assets. Banks of this size were considered too big to fail in the original Dodd-Frank Act, which set the line at $10 billion. That is no longer the case.

Other adjustments were also part of the package, some of which may benefit consumers.

Mortgage Underwriting Requirements

One provision in the bill could make it easier to secure a mortgage from community banks or credit unions. Previously, small financial institutions had to follow federal underwriting requirements in exchange for certain protections. For example, mortgage payments could not exceed 43 percent of a borrower’s income. Otherwise, it wouldn’t count as a “Qualified Mortgage,” under federal guidelines.

The reforms aren’t as stringent. Smaller banks and credit unions will have protection even if the qualified mortgage condition isn’t met, as long as the financial institution keeps the mortgage as part of their portfolio. Meaning, they can’t sell it to investors, then they can exceed the 43 percent threshold.

By giving small banks that flexibility, it may be easier for lower-income households to finance a home purchase. However, there is no guarantee smaller banks and credit unions will actually increase the amount they lend to borrowers. It isn’t a requirement. This merely gives them an option to lend that wasn’t on the table previously. Some institutions may choose not to exercise that right.

Private Student Loan Repayment

Private student loans acquired 180 days or more after the reform bill’s passage are subject to new rules that can be beneficial to consumers. First, lenders cannot declare default or accelerate any repayment terms in cases where a co-signer dies or declares bankruptcy. This provides a level of protection to the primary borrower, ensuring that such events don’t automatically impact them in a negative way.

Second, the Dodd-Frank Reform 2018 Act requires private student loan lenders to release cosigners from any remaining debt should the primary borrower die. This makes becoming a cosigner a bit safer, as previous rules did not prohibit the attempt to secure repayment.

Removing a private student loan default from your credit report is also simpler. If your lender offers a rehabilitation program for a loan in default that includes regular, consistent payments on the owed amount, you could request the removal of the negative remark on your report.

Free Credit Report Freeze

A portion of the reform act that went into effect on September 21, 2018, now allows consumers to freeze their credit reports for free. Previously, credit bureaus could charge, typically between $3 and $10, except under specific circumstances.

Additionally, unfreezing your credit report is also a no-cost service. This includes both permanent and temporary unfreezing, giving consumers the ability to prevent identity theft without any undue hardship should they apply for new forms of credit in the future.

The issue of charging for credit freezes became a hot topic after the Equifax breach in 2017. During the cyber attack, personal information on approximately 148 million consumers was compromised, including their names, Social Security numbers, birthdates, and addresses.

When people flocked to credit bureau sites to freeze their reports as a means of protecting themselves, it usually came with a price, potentially one from each bureau. This led legislators to call for a change, and it was included in the Dodd-Frank Reform 2018 Act.

Will There Be More Reforms in the Future?

There were changes to the regulations, and certain other provisions may certainly be targets in the future. This means that other portions of the original legislation may undoubtedly be subject to change over time. There is often a battle in determining an appropriate level of regulation, and various economic conditions and events can affect legislators’ overall perspective.

The crux of making changes to such legislation usually involves finding a balance between consumer protections, sheltering the economy from a financial crisis, and still allowing banks and borrowers to thrive. Changes to financial regulations often result in an adjustment to the restrictions on these institutions, either making lending requirements more or less stringent, or impacting the cost and profitability of operating a business in the sector.

Determining an ideal point is nearly impossible, as economic conditions and risks shift near continuously. Whether future legislative efforts will target the original Dodd-Frank Act or will work outside of it is somewhat unknown. However, you can practically count on changes occurring semi-regularly as legislators try to achieve their version of a perfect balance.

Do you view the new banking law as beneficial? Let us know in the comments below.

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Your Poor Credit Score Can Cost You at Least $21,000

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New Study Shows the Effect of Low Scores on Mortgage Loans

Your Poor Credit Score Can Cost You $21,000 New Study Shows the Effect of Low Scores on Mortgage Loans

A poor credit score can cost you a lot of money when you take out a mortgage.

A recent study by Zillow shows that the higher interest rates from a poor credit score can add at least $21,000 in additional interest to a mortgage, but often it’s even more than that.

Zillow analyzed over 100,000 mortgage quotes offered on Zillow Mortgages across the nation between March 25 and May 5.

It Doesn’t Take Much

Using the nationwide median home price of $213,100 and a 20 percent down payment as a reference point, Zillow found that potential borrowers with excellent credit (above 760) could qualify for a 4.5 percent interest rate on a thirty-year fixed-rate mortgage.

Borrowers with merely fair credit scores (640 to 679) could only qualify for a 5.1 percent rate. A change of 0.6 percent doesn’t seem like much, but the differences add up.

In this case, the drop from excellent to fair credit will cost you approximately $21,000 over the life of a thirty-year loan.

More Profound Effects

If you live in a market where homes are more expensive, the effect is even more profound. Apply the above example to San Jose ($1.3 million median home price), and the credit drop costs an additional $129,000.

Conversely, in a relatively inexpensive urban market like Pittsburgh, where the median home price is $135,465, the credit score drop only costs $9,000.

When you’re in the fair credit range, even a small increase has large positive effects. By bumping your credit score from the fair range to the good range (680-719), your interest rate offer for the national median home would decrease from 5.1 percent to 4.6 percent — bridging most of the gap between fair and excellent credit.

Save Money with Good Credit

According to Zillow’s data, on the national scale, simply moving up from fair to good credit would save you $16,000 over the life of a 30-year loan.

Not every market follows the national example. In Cincinnati, Zillow found that the rates for excellent, good, and fair credit were 4.7 percent, 5 percent, and 5.2 percent respectively.

In that market, going from fair to good credit saves $5,000 over the life of the median home loan while going from fair to excellent credit saves $12,000.

See the Impact

The Zillow study shows the credit score effects on median home costs for 53 urban markets. If you live in one of these markets, you can see the effects directly.

If not, you can estimate the effects by finding the median home price for your market and using an online calculator to run different interest rate scenarios.

You can see why a higher credit score is important – but do you know how to get one?

Make sure that you always make all of your monthly payments on time with at least the minimum amount due. Your payment history is the largest contributing factor to your credit score.

Keep Your Ratios Low

The second largest factor in a credit score is the total amount you owe. Keep your overall debt-to-income (DTI) ratio and your credit utilization ratio – the amount of credit you use versus the amount you have available – as low as you can.

Finally, check your credit report regularly to make sure there are no errors or signs of fraudulent accounts that could be inadvertently dragging down your score.

If you plan to buy a home, check your score three to six months before you intend to buy, and periodically until you do buy. You may need time to raise your score – and, thanks to Zillow, you now know how much you can save by doing so.

This article was provided by our content partners at MoneyTips. Photo ©iStockphoto.com/kosmin

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Home Prices Outpace Pay Increases

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Home Prices Outpace Pay Increases
Affordable housing is increasingly hard to find in today’s market. According to data from Trulia, America’s inventory of starter homes has decreased by almost half compared to six years ago while prices rose by almost 58 percent.

As consumers recovered from the housing crisis recession, more people became financially able to own a home. The existing supply was quickly consumed, leading to the current imbalance.

Affordable housing woes may continue indefinitely: According to a Reuters poll of property market analysts, home prices are expected to increase at almost double the rate of wages through 2018.

Home prices are predicted to gain 5.7 percent more over the course of the year, while average annual earnings growth is predicted to be 2.8 percent – slightly above the predicted inflation rate of 2.5 percent.

At least inflation is expected to stay more in line with wages, helping prospective homebuyers who are trying to save up for down payments – but little relief is in sight for home prices.

Wages Aren’t Keeping Up

Wages are finally beginning to rise as unemployment levels reach new lows. May’s 3.8 percent unemployment level is the lowest since 2000.

However, the pressure on employers to find workers hasn’t produced proportionally higher wages. Annual wage increases are still stuck below 3 percent.

Wage growth may hit the 4 percent range by 2019 – but the Reuters poll predicts that home prices are still likely to beat out wages with a 4.3 percent growth rate in 2019. The supply issue may ease in 2020 as home prices are expected to rise by only 3.6 percent.

Demand Outpaces Supply

Unfortunately, home prices might keep going up: While housing starts continue to trend upward, not enough of them are in the affordable range.

Even though demand is high, rising land and labor costs make it difficult for developers to make money catering to the lower-end market.

Meanwhile, rising prices may force marginally qualified homebuyers out of the home-buying market entirely, easing demand and eventually slowing price growth – but how many homes will be truly affordable by then?

Don’t Forget About Interest Rates

There’s one more obstacle for potential homebuyers to consider. Mortgage interest rates are rising, too – although, in historical terms, today’s 4.7 percent rate is still a decent deal. From 1972 to 2008, mortgage interest rates were never below 5 percent.

The Federal Reserve is expected to continue to raise interest rates throughout 2018 and 2019 to bring them back toward historical norms. Expect mortgage interest rates to follow.

The Reuters poll predicts the average interest rate on a thirty-year mortgage to reach 5 percent by the end of 2019, but we are on pace to reach 5 percent well before then.

People Buy Anyway

With all of these hindrances, you might think first-time homebuyers would be dropping out of the market or preparing to save up for a future purchase.

Evidence from Freddie Mac suggests the opposite is true – homebuyers may be stretching their budgets to buy now before they are priced out entirely.

First-time homebuyers made up 46 percent of new mortgages in the first quarter of 2018 – the largest number since Freddie Mac started collecting share data in 2012.

You may be trying to make that same decision – can I afford to buy a house now, or can I afford not to buy a house now?

Only you can answer that question, but make sure your decision is based on a realistic assessment of your finances and housing needs. Don’t think you have to buy a home now because “everyone else” is buying one.

Home Prices Outpace Pay Increases

When you want to buy a home, but home prices are rising faster than your paycheck, it’s more important than ever to make the most out of your take-home pay.

Keep your budget on track and your credit score high so you can act when you find that rare good housing deal.

Lay out your budget over time, including major expenses such as future college costs and retirement savings contributions.

Next, use online mortgage calculators and budgeting guides to help you determine how much house you really can afford to buy.

A realistic assessment is necessary to help you from overextending yourself and creating long-term financial difficulties. Seek the help of a financial professional if necessary.

Get Prequalified

Once you know you’re ready to enter the market, consider getting prequalified for a loan to verify that you really can afford your preferred home.

You may also want to review your housing goals. What’s your definition of affordable? Outline your needs vs. wants in a home. You may find a reasonably priced home that saves you from other financial stresses. If you are fairly handy, consider a fixer-upper where you can increase your wealth through sweat equity.

If all else fails and your income still doesn’t support a home purchase, maybe it’s time to ask for a raise – or find a better paying job while unemployment is still low.Visit Site

This article was provided by our content partners at MoneyTips.com. Photo ©iStockphoto.com/CHRISsadowski

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Higher Credit Scores Needed For Home Purchases

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Average Homebuyer Score Rose from 700 in 2005 to 732 in 2016

Higher credit scores needed for homebuying in 2018.
Welcome to the 2018 home-buying market: Rising demand and an extremely tight supply of homes, especially in the critical starter-home market, make it difficult to realize your goal of home ownership.

In this market, you’ll need two important things to land your dream home – more money and a higher credit score.

Data from the Joint Center for Housing Studies (JCHS) at Harvard University highlight the credit score issue.

According to the 2017 JCHS study, “The State of the Nation’s Housing – 2017,” the median credit score for successful mortgage loan applications increased from a FICO score of 700 in 2005 to 732 in 2016.

Lenders are still conservative in their risk assessments – aided in part by regulations put in place during the housing crisis.

In the pre-crisis market of 2005, around 10% of conventional first lien mortgages went to borrowers with a credit score below 620. That number fell to nearly zero by 2009, and as of 2016, it was still at 0.1 percent.

Just over 3 percent of 2016 loans were issued within the 620 to 659 credit score range, while approximately 67 percent were issued to borrowers with credit scores of 740 or higher.

Other Metrics

Along with your debt-to-income (DTI) ratio, your credit score is one of the most important metrics that lenders use to evaluate your ability to repay a mortgage loan. A good credit score can help you overcome a poor DTI.

According to the Wall Street Journal, Inside Mortgage Finance reports that in the fourth quarter of 2017, approximately 78 percent of loans with DTI ratios above 45 percent went to borrowers with credit scores of 700 or greater.

A DTI of 45 percent is generally considered the upper limit for issuing conventional loans, but mortgage backer Fannie Mae changed the limit to 50 percent last year as long as other criteria are met.

Other Options

What can you do if your credit score isn’t sufficient? You can consider a Federal Housing Administration (FHA) loan that allows lower credit scores and a down payment of as low as 3.5 percent. If you qualify, the FHA will back your loan – reducing your risk to lenders.

Generally, the minimum FICO score for an FHA loan is 580, although it’s possible to go as low as 500 with extenuating circumstances.

Some lenders will require a higher credit score in the 620 to 640 range to accept an FHA loan.

More Alternatives

For those who qualify, Veteran’s Administration (VA) loans are a similar alternative.

Your other option is to work on improving your credit score and building up a larger down payment over time.

Control spending in a way that allows you to pay down your debts, make sure that you pay all your bills on time, and keep your credit card spending below 20 percent of your credit limit if possible. You’ll eventually meet your loan qualification target.

Loan Quality

It’s not just about baseline qualification, but also about the quality of the loan offers.

Jordan Goodman, the personal finance expert and author known as “America’s Money Answers Man,” advises, “Sometimes it makes sense to wait to get your credit score up to a higher level to be able to get a lower interest rate … when you are getting a mortgage, it’s a long-term commitment.”

A fraction of a percentage point can mean thousands of dollars of interest savings over the life of a thirty-year loan.

In this market, it’s all relative. You may have a suitable credit score to secure your preferred home – but are you competing with somebody who has an even better credit score?

This article was provided by our partners at moneytips.com. Photo ©iStockphoto.com/nzphotonz

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More Homebuyers Stretch Toward Excessive Debt

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More Homebuyers Stretching To Buy New Data Shows Homebuyers Trending Toward Excessive Debt

It’s difficult to purchase a home in today’s market. Pent-up demand and an extreme shortage of homes have led to a rapid increase in prices that outpaces recent wage gains.

The problem is acute in the market for starter homes and critical in high-value markets like San Jose, Seattle, and Austin.

Desperate homeowners are stretching their finances to buy a home, and lenders and mortgage backers are increasingly willing to accommodate them.

More at Risk

This strategy increases homeownership but puts more households at risk of future default by overloading them with debt – increasing the chances of another housing crisis.

How much debt is too much? Lenders gauge this through your debt-to-income ratio – the total monthly debt you have as a percentage of your income.

Traditionally, a debt-to-income ratio of 45 percent is the upper limit for allowing conventional loans without special circumstances.

Changed Criteria

In July of 2017, the mortgage backer Fannie Mae raised this limit to 50 percent in an attempt to help potential homeowners who could meet mitigating criteria (at least twelve months cash reserves and a 20 percent down payment).

New data from CoreLogic suggests that many new homeowners have taken advantage.

CoreLogic found that approximately 20 percent of conventional mortgage loans over the past winter were taken out by borrowers with DTI ratios above 45 percent.

That’s nearly three times the percentage of loans made in the eighteen months prior to Fannie Mae’s DTI ratio limit increase, and the largest percentage since the housing crisis.

Home Supply May Not Improve Soon

Since the supply of homes is unlikely to improve anytime soon – especially in the starter-home market, where builders make minimal profits – the concern is that lenders will loosen credit even further and authorize too many risky loans.

As a potential homebuyer, you must resist the temptation to stretch your budget on the assumption that everything else will fall into line.

Homeownership has significant running costs that first-time homebuyers may not fully grasp.

Underestimating Expenses

Personal finance expert and author Jordan Goodman says, “The biggest mistake people make when they are buying their first home is underestimating the expenses involved.”

Goodman cites property taxes, insurance, and maintenance as typically underestimated expenses.

When your total expenses already leave you with little financial cushion, it only takes one large unplanned event such as a medical emergency or a job loss to push you into a debt spiral.

Minimal Savings

A high DTI also means that it’s unlikely that you have an adequate emergency fund and are saving enough for retirement.

Take this into account as you search for affordable homes. Even though a lender may offer you a loan that raises your DTI above 45 percent, there’s no reason you must accept it.

Scale back your search to homes that don’t force you into an excessive DTI – and if you can’t find one, lower your spending and pay down other debts to drop your DTI to a more manageable level.

Don’t Lose Common Sense

The desire for homeownership can overcome common sense when it comes to finances. Don’t let your dreams overrule your pocketbook.

Assess your housing needs and finances properly to make sure that you aren’t overpaying for your new home – and know your realistic limits in case a bidding war starts.

Consider the advice of Greg McBride, chief financial analyst for Bankrate.com, who suggests limiting your home purchase to no greater than three times your annual income.

Otherwise, you may end up in a situation that Jordan Goodman describes as, “The house owns you. You don’t own the house.”

This article was provided by our partners at moneytips.com. Photo ©iStockphoto.com/FatCamera

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