FHA Home Equity / Cashout Loans
What is an FHA Cash Out Refinance?A home equity loan allows homeowners to borrow money while using the equity on your house as collateral. There are two main types of home loan refinance programs: (1) rate and term refi, and (2) cash-out refi. The same holds true for FHA-insured loans. FHA refinance loans are categorized the same way, either a streamlined rate and term or cash out, respectively.
Streamline RefinanceThe FHA streamline refinance loan program is a rate and term refinance of an existing FHA loan with little documentation and underwriting. The mortgage to be refinanced must be an existing FHA-insured loan, it must be current, and must have a net tangible benefit to the borrower. It can be either one of these:
- No Credit, No Appraisal – no credit is pulled, and no new appraisal is required. The original purchase price will be used as a new appraisal to determine value;
- No Credit, Full Appraisal – no credit is pulled, but a new appraisal is ordered for the subject property;
- Full Credit, No Appraisal – a new credit report will be pulled to determine the borrower’s eligibility, but no appraisal is needed. The original purchase price will be used as a new appraisal.
- Full Credit, Full Appraisal – a new credit report will be pulled, and a new appraisal will be ordered.
Cash Out RefinanceThe FHA cash out loan program provides and allows the borrower to get cash at closing. A borrower gets a new loan with a higher balance over what is currently owed on the loan, the proceeds given back to the borrower after paying off the first mortgage and other costs associated with the new loan. The borrower can use the funds for any purpose, such as:
- Home improvement
- Education expenses
- Paying off high-interest debts
- Paying off medical bills and other expenses
- Debt consolidation
- Emergency needs
- Invest in higher yield tools
FHA vs. Conventional Cash Out
To get the most out of refinancing, the first thing a borrower needs to do is understand the basic difference between a conventional cash out loan and an FHA cash-out.
- Occupancy – Both loans require the property to be owner-occupied with a 6-month ownership requirement and not used as an investment property. However, on an FHA cash out loan, the homeowner must have purchased and lived in the property for at least a year before the refinance, to use the current appraised of the property. Conventional loans require the homeowner to own and live in the property for at least six months, no exceptions.
- Loan-to-Value – The maximum loan-to-value (LTV) for an FHA cash out loan is 85% of the property appraised value. To qualify for the 85% loan to value for an FHA loan, the borrower must have owned the house for a year. If not, they can still do an FHA cash out refi, but the original purchase price will be used as a new appraisal. Conventional cash out loans often referred to as the Section (a)(6) loan program, only allows a maximum of 80% loan-to-value.
- Mortgage Insurance – FHA requires a mortgage insurance premium on all loans. The upfront mortgage insurance premium is 1.75% of the loan amount, and the monthly MIP is 0.80% of the loan amount per year. The mortgage insurance premium is payable in 11 years before it can be canceled. The significant difference between the two loan programs is the mortgage insurance. Conventional loans don’t require a private mortgage insurance (MIP) if the loan-to-value is less than 80% of the appraised value.
- Loan Requirement – For an FHA cash out, a borrower must follow the 29/41 debt-to-income rule. Meaning, the borrower’s monthly housing debt – the principal, interest, taxes and insurance monthly payment – may not exceed 29% of the borrower’s gross monthly income. The borrower’s total debt – housing expenses plus other debts – may not exceed 41% of the gross monthly income.
Homeowners with a significant equity on their property should consider a conventional cash-out refinance instead of an FHA cash-out refinance to avoid the extra cost of the mortgage insurance premium associated with an FHA loan. Also, consider the difference in interest rate since the bottom line for every homeowner is the monthly payment of the mortgage.
To learn more about FHA cash out loans, please contact our Loan Specialists or use the tools on this site.