A cash-out refinance replaces your existing mortgage with a new home loan for more than you owe on your house. The difference goes to you in cash and you can spend it on home improvements, debt consolidation or other financial needs. You must have equity built up in your house to use a cash-out refinance.
While a cash-out refinance will change the amount you owe on your home, it won’t automatically change the assessed value used to calculate your property taxes. That said, this kind of loan, under certain circumstances, may indirectly affect your property tax.
How It Works
Traditional refinancing, replaces your existing mortgage with a new one for the same balance. A cash-out refinance is a fairly simple transaction, here’s how a cash-out refinance works.
Say your home is worth $200,000 (and will appraise at this level) and you currently owe $130,000 on the mortgage. Equity is the difference between the home’s value and your mortgage debt, so you have $70,000 worth of equity in the home. To “unlock” some of that equity, you might take out a new $150,000 loan backed by your home. You use $130,000 of that money to pay off the original mortgage. The remaining $20,000 is cash you can spend. You’ve refinanced, meaning you replaced one loan with another, and you got cash out of the deal. Ta-da: cash-out refinance.
- Pays you part of the difference between the mortgage balance and the home’s value.
- Has slightly higher interest rates due to a higher loan amount.
- Limits cash-out amounts to 80% to 90% of your home’s equity.
Pros of a Cash-Out Refinance
Lower interest rates: A mortgage refinance typically offers a lower interest rate than a home equity line of credit, or HELOC, or a home equity loan.
A cash-out refinance might give you a lower interest rate if you originally bought your home when mortgage rates were much higher. For example, if you bought in 2000, the average mortgage rate was about 9%. Today, it’s considerably lower. But if you only want to lock in a lower interest rate on your mortgage and don’t need the cash, regular refinancing makes more sense.
Debt consolidation: Using the money from a cash-out refinance to pay off high-interest credit cards could save you thousands of dollars in interest.
Higher credit score: Paying off your credit cards in full with a cash-out refinance can build your credit score by reducing your credit utilization ratio, the amount of available credit you’re using.
Tax deductions: The mortgage interest deduction may be available on a cash-out refinance if the money is used to buy, build or substantially improve your home.
Cons of a Cash-Out Refinance
Foreclosure risk: Because your home is the collateral for any kind of mortgage, you risk losing it if you can’t make the payments. If you’re doing a cash-out refinance to pay off credit card debt, you’re paying off unsecured debt with secured debt, a move that’s generally frowned upon because of the possibility of losing your home.
New terms: Your new mortgage will have different terms from your original loan. Double-check your interest rate and fees before you agree to the new terms.
If you’re doing a cash-out refinance to pay off credit card debt, avoid running up your cards again.
Closing costs: You’ll pay closing costs for a cash-out refinance, as you would with any refinance. Closing costs are typically 2% to 5% of the mortgage — that’s $4,000 to $10,000 for a $200,000 loan. Make sure your potential savings are worth the cost.
Private mortgage insurance: If you borrow more than 80% of your home’s value, you’ll have to pay for private mortgage insurance. For example, if your home is valued at $200,000 and you refinance for more than $160,000, you’ll probably have to pay PMI. Private mortgage insurance typically costs from 0.55% to 2.25% of your loan amount each year. PMI of 1% on a $180,000 mortgage would cost $1,800 per year.
Enabling bad habits: Using a cash-out refi to pay off your credit cards can backfire if you succumb to temptation and run up your credit card balances again.
Not a Sale
Back to taxes… the property taxes you pay are based on your home’s assessed value. That is the “official” value the local taxing agency assigns to your home. In Ohio, county auditors are required to do a full, general reappraisal once in every six years. This process is called the Sexennial Reappraisal.
Home sales commonly trigger automatic reassessments. The good news for a homeowner who’s refinancing, however, is that while a refinance resembles a sale in many ways — taking out a new loan and paying off an old one — it isn’t a sale for property tax purposes. So a cash-out refinance won’t automatically change your property taxes.
Although a refinance isn’t a sale, your new loan will still be a matter of public record because the lender has a legal claim on the property until you repay the loan. That means that when the time comes to revalue your home for property tax, the assessor will be able to see how much you borrowed. In order for the lender to approve the loan, your home must appraise at the new loan value. Thus if the new loan suggests that your property has increased in value, that might lead to an increase in your assessment, which will ultimately lead to a rise in your property taxes.
Tax Effect Example
Say that your home is assessed at $200,000 and you owe $130,000 on the mortgage. You want to do a cash-out refinance, so your lender performs an appraisal on the property and concludes that its value has risen to $250,000. You take out a new loan for $230,000, pay off the old loan and take $100,000 out in cash. The next time your home comes up for reassessment, the assessor will see that you took out a $230,000 loan on the home — meaning the home must be worth at least that much. That all but guarantees a higher assessment and higher taxes. Keep in mind however, that your taxes might have been going up anyway. If the bank thinks your property is worth $250,000, the assessor might have come to the same conclusion even without seeing the loan.
If you feel your home has been overvalued by the tax assessor we would encourage you to contact your Realtor to request comparables sales data and a profession opinion of your home’s current value. If your agents estimate falls below the total assessed value, your property may be assessed too high and you may wish to file a complaint with your local board of revision to dispute your property tax assessment and reduce your tax burden.
If you, or someone you know is considering Buying or Selling a Home in Columbus, Ohio please give us a call and we’d be happy to assist you!
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