What are the options for taking cash out of a home you own free and clear?
The good news is that you have multiple options to take cash out of your home if you own your home free and clear. You are also an attractive borrower to lenders because of the significant equity you own in your property.
The primary financing options for taking cash out of a home that you own outright include:
Home Equity Loan
Home Equity Line of Credit (HELOC)
Cash Out Refinance
Reverse Mortgage
We review these programs below and explain when each option makes the most sense, depending on your individual circumstances. It is important to consider the positives and negatives so that you can determine the best way for you to take cash out of your property.
Home Equity Loan
A home equity loan is a good way to take cash out of your home if you have a specific use of proceeds and you do not need to tap all of the equity in your property. A home equity loan has a fixed loan amount and interest rate which provides certainty that your monthly remains the same over the course of the loan.
The closing costs and total interest expense are also lower than other financing options because your loan amount is smaller. In short, a home equity loan is typically the most conservative way to take cash out of your home.
The downside of a home equity loan is that amount of proceeds you can access is usually lower than the other financing alternatives presented below. Additionally, as compared to a HELOC, a home equity loan provides less financial flexibility. Finally, the interest rate on a home equity loan may be higher than for a refinance or the starter rate on a HELOC.
Home Equity Line of Credit (HELOC)
A HELOC offers benefits similar to a HELOC but provides additional flexibility because you can draw down and repay the line an unlimited number of times. A HELOC works well if you do not have defined use of proceeds and you want to access the equity in your home periodically and for different reasons over time.
Because the monthly payment for a HELOC is calculated based on your outstanding loan balance, your payment may be lower than for a home equity loan, depending on how much you have drawn down on the line. Additionally, HELOCs usually have a low teaser rate for the first six-to-twelve months and then the rate increases and adjusts over time.
A HELOC is riskier than a home equity loan because your interest rate and monthly payment can potentially increase over the course of the line. We should also highlight that some HELOC lenders require a minimum draw amount or charge a non-utilization fee if the line is not used.
The table below outlines home equity loan and HELOC rates, monthly payments and program terms. We recommend that you contact multiple lenders to find loan that is right for you.
Cash Out Refinance
A cash out refinance is usually the best option when you want to maximize the cash you take out of a home that you own free and clear. It is important to highlight that any time you personally receive proceeds from a mortgage it is considered a cash out refinance even if you are not technically refinancing an existing loan on your property.
For a cash out refinance of a single unit home that you live in, you can take out 80% of the property value and for a two-to-four unit property you can take out up to 75% of the property value. So if your home is valued at $200,000, you can access in $160,000 in proceeds with a cash out refinance. This is why the maximum loan amount for a cash out refinance is usually higher than for a home equity loan or HELOC.
The negatives of a cash out refinance are that you need to qualify for the loan based on your credit score, debt-to-income ratio, employment history and other factors. If you do not earn a lot of money, you may not be able to qualify for the highest mortgage amount despite have no other loans on your property.
Another downside is that your monthly payment, closing costs and interest expense are usually higher as compared to other financing options because your loan amount is higher. The mortgage rate for a cash out refinance also tends to be higher than for a regular mortgage or refinance when you receive no proceeds.
The table below shows mortgage refinance rates and fees for leading lenders near year. We recommend that you shop multiple lenders to find the best cash out refinance terms.
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Reverse Mortgage
If you or your spouse are at least 62 years old, you can take cash out of your home through a reverse mortgage. With a reverse mortgage, you can receive a one-time lump sum, monthly disbursements or access to a line of credit.
Advantages of a reverse mortgage include no monthly payments which boosts your cash flow but you are still required to pay property tax and homeowners insurance. Another benefit is that disbursements are tax free. A reverse mortgage is a good option if you have minimal income and cannot qualify for a home equity loan, HELOC or cash out refinance.
Review our Reverse Mortgage Guide
The main drawback of a reverse mortgage is that your loan balance increases over time, which reduces the equity in your home unless your property value appreciates significantly. Additionally, the closing costs for a reverse mortgage are also significant which reduces the proceeds you receive.
You are also required to pay upfront and ongoing mortgage insurance fees which are extra costs you typically do not pay with the other financing options, although these fees are added to your loan amount.
You can use the FREEandCLEAR Lender Directory to search over 3,900 lenders by rating and mortgage program. For example, you can find top-rated lenders that offer reverse mortgages.
Sources
“What is a home equity loan?” CFPB. Consumer Financial Protection Bureau, September 25 2017. Web.
“My lender offered me a Home Equity Line of Credit (HELOC). What is a HELOC?” CFPB. Consumer Financial Protection Bureau, September 25 2017. Web.
"B2-1.3-03, Cash-Out Refinance Transactions." Selling Guide: Fannie Mae Single Family. Fannie Mae, July 3 2019. Web.
"Home Equity Conversion Mortgages For Seniors." Federal Housing Administration. U.S. Department of Housing and Urban Development, 2020. Web.
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