Refinance Your Loan with the FHA Cash Out Refinance Program
If you'd like to reduce your rates and access the equity in your home, you should consider the FHA cash out-refinance program. Whether you have a conventional home loan or an FHA loan, you will be able to benefit from the simple terms and requirements of the FHA cash-out loan. Not only do you have the chance to get lower rates (and a lower monthly payment) but you will also get some extra cash to use at your discretion. And, if you want to learn more about FHA cash out refinancing (from a real human), contact us at home.loans and we'll give you the scoop.
What is the FHA Cash-Out Refinance loan?
The FHA Cash-Out Refinance loan is an option that allows a homeowner to pay off their existing mortgage by taking out a new, larger home loan. Like conventional cash-out loans, the Federal Housing Administration (FHA) cash-out loan leverages your home equity to fund a larger loan than what you currently owe on your original mortgage and pays you cash for the difference. Equity is the difference between a property’s current value and the amount that’s owed on the mortgage.
The amount you can borrow depends on the amount of equity the borrower has built in the home’s value and is based on the loan to value ratio (LTV), which can’t exceed 85% in order to qualify. To qualify for an FHA cash-out refinance, you’ll need at least 15% equity in the property — based on a new appraisal.
For an example of how an FHA cash-out loan works, lets say that your home is valued at $150,000 and you owe $75,000, then you may only refinance to the value of $127,500 ($150,000 x 85%). If you refinanced to the full amount you could get a cash out of $52,500 ($127,500 - $75,000) before subtracting closing costs.
The Benefits of FHA Cash-Out Refinancing
If you’d like to reduce your rates and access the equity in your home, you should consider the FHA cash out-refinance program. Whether you have a conventional home loan or an FHA loan, you will be able to benefit from the simple terms and requirements to apply for an FHA cash-out loan.
Not only do you have the chance to get lower rates (and a lower monthly payment) but you will also get some extra cash to use at your discretion. You can use the cash for anything you like; however, the most popular choices are:
Pay toward the mortgage
Buying or paying off a car
Let’s say you have the equity you need and you qualify for the loan. If you owe $100,000 on your home and open an FHA cash-out loan for $150,000 and pay $5,000 in closing costs, you’ll end up with $45,000 to use however you want.
If you don’t choose the cash-out, this type of loan can be used to lower the interest rate and/or change the loan terms simultaneously—or, change an ARM to a fixed-rate loan.
Why you should consider the FHA Cash-Out loan
Unlike the FHA streamline refinance program which only allows borrowers to refinance FHA loans, the FHA cash-out loan lets you replace any existing home loan with an FHA secured loan. It doesn't matter what kind of loan, either. Whether it's a conventional loan, subprime, adjustable rate mortgage, ALT-A or any other loan type, you can refinance it with the FHA refinancing program.
The benefits are much greater than just getting cash out, too; the loan program is useful for reducing your interest rate and/or modify the loan terms to something more beneficial to your goals, like reducing a 30-year FRM loan to a 15-year FRM loan. You could also refinance in order to switch from an adjustable rate mortgage to a more easily manageable fixed rate home loan.
The best part is that there are no restrictions on your use of the cash funds you receive. You could use that extra money for anything from buying a new car to paying off expensive debts like student loans.
FHA Cash Out Refinance Pros:
You can refinance any loan type
More flexibility with your credit history and more options for first-time home buyers
You can turn your home equity into cash
FHA loans are assumable, so whoever purchases the home from you can take over your loan at the refinanced rate
Comparably lower rates than conventional cash-out loans
FHA Cash Out Refinance CONs:
The FHA has loans limits for each county and that may affect what you can expect from an FHA loan
FHA loans come with mortgage insurance costs, no matter the down payment amount
You will need to fill out all necessary paperwork for the new FHA loan
The FHA cash-out refinance program carries more strict eligibility requirements than the FHA Streamline refinance program
How to Qualify for the FHA Cash-Out Refinance Program
The official credit requirement from the FHA is 500+, but lenders can set their own credit requirements. Generally, credit scores between 600 – 660 are the standard. On top of that, homeowners must have a loan-to-value (LTV) ratio of no more than 85% and will need to get their home appraised in order to confirm its value. Beyond that, eligibility for the FHA cash-out refinance is for homeowners who fit the following criteria:
Live in the home as a primary residence—you cannot use second homes or investment property
Have owned the home for at least one year
Had no late payments within the last year
The debt attached to the house, such as mortgage insurance, homeowners insurance, principal and interest, taxes, HOA dues, etc., should not exceed 29% of your gross income
Debt-to-income ratio (DTI) should not be greater than 43%—your total monthly debt obligations cannot be valued at more than 43% of your total monthly income
You can possibly qualify for an FHA cash-out loan with a DTI as high as 50% depending on the lender’s acceptance of certain “compensating factors” that reduce their risk. These factors can include larger down payments, higher credit scores, or purchasing an energy-efficient home.
FHA Cash-out Refinance Guidelines
No funds are needed to close an FHA cash-out refinance loan. Asset verification through a bank and/or investment statements are usually not required. However, the FHA lender may request bank statements as part of its own underwriting process.
FHA lenders evaluating an FHA cash-out loan application will require a new appraisal for the property. This is because the value from the appraisal is used to determine the maximum allowable loan amount. Currently, the maximum loan amount for an FHA cash out refinance is 85 percent of the value of the property as long as the home was purchased more than one year ago and does not exceed FHA county-by-county loan limits.
Non-occupant co-borrowers are not allowed for cash-out loans. That means you can’t add a borrower to the loan who doesn’t live in the home. In other words, you can’t have your name on a relative’s FHA cash-out loan.
The minimum credit score for all FHA loans is 580. While there are no minimum credit score requirements established by the FHA for cash-out loans specifically, lenders will typically have their own internal requirements that are much higher than the minimum. The minimum credit score minimum requirement for an FHA cash out refinance is usually between 620 and 680.
The FHA wants to ensure a borrower will be able to make the monthly payments. This way, they help prevent people from getting a mortgage they can’t afford. So they look at a borrower’s debt-to-income ratio.
FHA cash-out loans require the borrower to meet existing debt to income ratio guidelines. The maximum FHA debt ratio guidelines are 29 and 41 but may be higher in certain instances. The first ratio, 29, is the housing ratio calculated by dividing the total housing payment with gross monthly income. The housing payment includes principal and interest, taxes, insurance, monthly mortgage insurance premium, and any condo or homeowner association fees.
For example, if the housing payment is $2,000 and monthly income is $7,000, the housing debt ratio is 28.5%. A borrower with $7,000 per month income could have a house payment up to $2,030 per month and monthly credit obligations of up to $840 per month.
The total debt ratio limit is 41 and includes the housing payment plus additional monthly credit obligations. Additional credit obligations include credit card payments, automobile or student loans and installment debt. Other qualifying debt includes spousal or child support payments. This number does not include utilities, car insurance, or other non-debt payment types.
Ordinarily, FHA loans allow for a DTI of no more than 43 percent. In some cases, though, the FHA may allow borrowers with significant “compensating factors” to qualify with up to 50% DTI. These compensating factors can include a high credit score, a large down payment, or other qualifiers (like purchasing an energy-efficient home).
The FHA cash out refinance requires sufficient income to qualify for the new loan. Borrowers will verify their income with at least two most recent paycheck stubs from their employer showing current and year to date earnings, at least two years of W2 forms, and in many instances, the two most recently filed federal income tax returns.
Length of ownership of the home
If you’ve lived in the home less than a year, the FHA lender will use the lower of the appraised value or the original purchase price of the home to determine your maximum loan amount. For example, if you purchased the home less than a year ago for $250,000 and it now appraises for $270,000, your maximum loan amount will be $212,500 (85% of $250,000).
In 2018, the maximum FHA loan limit is $294,515 for most areas of the country. In some areas like Los Angeles and New York City, maximum loan amounts can go as high as $679,650.
Maximum Loan to Value
The maximum LTV for FHA cash-out refinances is 85 percent of the property’s current value. You calculate the LTV ratio by dividing the loan amount requested by the property value from the current appraisal.
FHA cash-out refinance loans are for owner-occupied properties only and cannot be used for rental properties.
Payment History Requirements
The borrower must provide documentation proving they’ve made all the monthly payments on time for the last 12 months (or since the beginning of the loan, whichever is less). A mortgaged property must have 6 months of payments at minimum before you can apply to refinance.
Unless both loans add up to 85% of the home’s value or less, you can’t add a second mortgage to an FHA cash-out loan. In some cases, you might be able to keep an existing second mortgage if you can subordinate it under the FHA loan. (Subordinating a loan involves receiving approval from the second mortgage lender agreeing that its loan is a lower priority than the FHA loan.)
Homes Owned Less Than One Year
If the borrower has had a mortgage for at least 12 months, the most recent 12 mortgage payments must have been made on time. If the borrower has had a mortgage for less than a year, they must have made at least six payments on the current mortgage.
Let’s say you bought a home in May, and your first payment is due in July. This means you’ll need to make all payments on time from July through December before you’re eligible to apply for a cash-out loan—whether or not you have an FHA loan.
Credit Scores And LTV
An FHA cash-out loan has more relaxed guidelines than a conventional cash-out loan. This means borrowers with higher debt-to-income ratios and lower credit scores can qualify.
The absolute minimum credit score for FHA loans is 500, assuming a 10% down payment. The FHA cash-out refinance requires 15%. But most lenders require a much higher credit score than 500. Because cash-out lenders are more careful with approvals than home purchases, you’ll probably need a minimum score between 600 and 660 to qualify for FHA cash out.
FHA cash out maximum loan-to-value is 85% of the home’s current value (a new appraisal is required). Compare that with a maximum conventional cash out LTV of 80%. The higher limit is why many homeowners choose FHA cash-out loans instead of conventional.
Conventional vs. FHA Cash Out Refinances
Nothing is perfect, and an FHA cash-out refinance loan is no exception. All FHA loans require an upfront mortgage insurance premium of 1.75% of the loan amount. For a $200,000 mortgage loan, this insurance premium would be $3,500 in additional principal added to the loan total.
Additionally, FHA requires monthly mortgage insurance. It works out to be 0.80% of the loan amount per year on a loan with an 85% loan-to-value. That’s $67 per month for every $100,000 borrowed. FHA mortgage insurance changes implemented on June 3, 2013, now require this monthly mortgage insurance for 11 years.
These extra costs may make a conventional cash-out refinance better for you if your home has significant equity. Conventional loans at or below 80% loan-to-value do not require upfront or monthly mortgage insurance.
FHA cash out mortgage rates
FHA rates are low, averaging 10 to 15 basis points (.10 – .15%) below conventional rates. This is because the FHA has strong government backing, so lenders have lower risks when issuing these loans. Lenders can issue these loans at lower risk due to FHA’s strong government backing.
Questions and Answers about the FHA Cash Out Loan Program
How much lower does my new rate have to be in order to qualify for an FHA cash-out loan?
There aren’t any requirements that a new rate has to be lower by any specific amount. However, your lender might require that you get tangible benefits by refinancing. Tangible benefits can include reducing your loan term, changing from a hybrid or adjustable-rate mortgage into a fixed rate mortgage, the cash itself, or lower monthly payments.
Is there any way to eliminate the mortgage insurance premium on an FHA loan?
No. The upfront FHA mortgage insurance is a requirement. In some cases, you may be able to get your lender to adjust your interest rate upward and give you a credit from the excess profit from the loan. This can help cover the 1.75% upfront mortgage insurance premium.
Can I refinance my conventional mortgage into an FHA cash-out loan?
Yes. However, the limit for an FHA cash-out is 85% of the property’s value and requires mortgage insurance premiums to be paid. Consider the additional closing costs with an FHA cash-out loan and compare the FHA option with a conventional loan.
How do I determine how much cash out I need?
An FHA loan is limited both by the 85% LTV and local FHA loan limits. Keep those limitations in mind as you calculate how much cash you need. When you have settled on a number, tell your loan officer. He or she can come up with the loan amount you need. If you want to avoid the costs of a complete refinance and only want to pull cash out of your property, consider a home equity loan instead.
How late can a payment be in the past 12 months?
Most mortgage payments are due on the first of the month and are considered past due after the 15th of the month. Only payments that are more than 30 days past the original due date are considered late. If you make a past due payment before 30 days past the due date, it likely won’t be counted against you. That is, if your lender received the payment before 30 days late and didn’t report the late payment to the major credit bureaus.
I bought a property four months ago and it’s worth a lot more now. Can I refinance?
If you haven’t owned a property for more than six months, you’re not eligible for an FHA cash out — you have to wait at least six months. If your property has become significantly more valuable in six months, the FHA lender will use the original sales price of the property or a new appraisal, whichever is lower. But a lender will likely question why the property value has increased that much in a reasonably short time frame.