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Cash-in Refinance Great If You Have The Dollars

August 20th, 2010

Cash-in refinance is on the rise. Cash-out is dead, or at least for now. More homeowners are bringing a check to closing, rather than collecting money  from the closing agent.

Second quarter data from Freddie Mac  confirms a trend of “cash-in” refinancings. About 22% of homeowners who refinanced their first mortgages during the last quarter put in cash to lower the principal. This tied a record for the third highest “cash-in” share since Freddie Mac started keeping records in 1985. The share increased from the first quarter, when the revised cash-in share was 19%, according to revised figures.

On the other hand, borrowers who took cash out at closing, and increased their loan balance by at least 5%, fell to 27%. Overall, total home equity converted to cash fell to the lowest level in a decade at $8.3 billion.

Cash-in refinance is the recommended  strategy when the homeowner has money in an investment that is returning 1% or less; or if the homeowner wants to avoid paying private mortgage insurance (PMI).

These are all solid financial reasons to do a cash-in. However, given the current financial climate, is it the right time to do a cash-in? Some opponents of cash-in refinance claim that borrowers are throwing good money at a bad deal. They say that in a market that is plunging, and with no bottom in sight, it might be better to wait until the housing market recovers.

Many homeowners have to pay down their principal in order to qualify for the mortgage by getting the loan-to-value in line with the lender’s guidelines. The decline in house values is one reason for high loan-to-values.

Lenders  require private mortgage insurance on loans for more than 80 percent of the home’s appraised value. For example, if a homeowner bought a $300,000 house a few years ago, today he would be faced with a 25% drop in value. Let’s say the house is now appraised at $220,000. To avoid mortgage insurance, the refinanced loan can’t be for more than $176,000. That’s 80 percent of the home’s current value of $220,000. If the borrower owes $196,000, he will have to go to the closing table with a check for the difference, $20,000, or pay PMI.

Falling home values is a one of the main reasons borrowers are not closing on a loan.  But there is an option for them. The option is that they can bring  money to the table to lower the loan amount in order to get the loan-to-value under 80 percent.

Other borrowers are putting more cash towards their mortgages because the investments they have are producing meager returns. A savings account, a certificate of deposit or a money-market fund are only paying about 1%. So it makes sense to move your money from these non-performing investments into your mortgage with a rate of 4.1% or better.

In any case you have to crunch the numbers. Of course, you need a lower rate than what you currently have. You also have to look at the total closing costs. Calculate your monthly savings from the refinance, and determine how long it will take to recoup your closing costs.

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Entry Filed under: Refinance