When you’re ready to buy another home besides your primary residence, you’ll need a down payment. If you don’t have a large amount of cash available, you may think about borrowing the funds. Before you take out a high-interest loan, consider a cash-out refinance on your existing property.
Putting Your Equity to Work
Equity is the difference between your home’s value and any outstanding loans on it. When you have equity in your primary residence, you can use it any way you choose. While you could do anything with the funds, investing in another piece of real estate can give you an excellent return on your investment.
The requirements to get a cash-out to refinance are pretty standard. The main things your lender will look at are your credit, income, debt load, and equity. The type of property you’re buying doesn’t influence your cash-out refinance. And the money you take out of your primary residence as a down payment can help you get attractive loan terms to buy another property.
Here’s everything you must know about using a cash-out refinance to buy another property.
Cash-Out Refinance to Buy Second Home
A second home is a home for your personal use — but not your primary residence. Your primary residence is where you live full-time. A second home is a home you live in part-time, even if it’s only a few times throughout the year, but you don’t rent it out to anyone else.
Typically, a property must be located at least 50 miles away from your primary residence to qualify as a second home. If it’s within 50 miles, it has a higher chance of being an investment property with stricter requirements than a loan for a second home.
Besides primary residences, second homes have the most flexible underwriting and down payment guidelines. You can typically get by with a 20% down payment. Obtaining your down payment from your home's equity can help get you on the path to owning a second home.
Cash-Out Refinance to Buy a Vacation Home
A vacation home is similar to a second home. It’s a home for your personal use, but not to live in year-round. Because it’s not your primary residence, it poses a slightly higher risk of default. But, it’s not as risky as an investment property.
You’ll typically need a higher down payment for a vacation home than a second home if you plan to rent the property out when it’s not in use. It’s common for vacation homeowners to use the property a couple of times a year, and when they aren’t using it, they rent it out, using the income to cover the mortgage payments.
For example, if you live in the Midwest but buy a vacation property in Florida, you may use it a few times a year and even let family use it. The times when it’s not occupied, though, you may rent it out to cover the cost of your mortgage, HOA dues, and upkeep.
Because it’s a slightly higher risk than a second home, you may need a down payment higher than 20%, but not by much. Your lender will just need to make sure you can afford both mortgage payments if you still have a loan on your primary residence.
Cash-Out Refinance to Buy an Investment Property
If you’re ready to level up from investing in stocks and bonds and want to move into real estate, a cash-out can be a great way to get started. Since a mortgage helps you leverage your investment, you can buy a property that’s worth much more than you invest in it. That may provide you with a more significant Return on Investment (ROI).
When you buy an investment property, the terms to qualify will depend on the project's riskiness. Ask yourself — Are you
- Investing in land that you’ll improve in the future?
- Buying a run-down property to fix up and sell?
- Purchasing a run-down property to fix up and rent out, earning monthly income?
- Buying a property that’s ready to rent out right away?
The condition of the property and your intention for it will determine what you need to qualify for the loan. For example, if you’re buying a run-down property, you’ll need a much larger down payment or possibly all cash versus purchasing a home that’s ready to rent to tenants.
Cash-Out Refinance to Buy a Rental Property
Suppose you don’t have any interest in buying a property that needs fixing up. But instead, you want a property that’s ready to rent to tenants or even one that already has tenants in it (turnkey property). In that case, you can use your home’s equity to buy it.
While rental properties are riskier than primary residences or second homes, they aren’t as risky as an investment property that isn’t livable, or you aren’t sure what you’ll do with it yet.
You’ll likely need a 25% or more down payment for a rental property. But you can use the down payment from your home’s equity. Ask your lender if you can use the potential rental income from the property to qualify.
Final Thoughts About Cash-Out Refi’s For Down Payments
A cash-out can be a great way to get the money you need to buy a second home, vacation home, investment property, or rental. Whether you’re looking to invest in a property for income purposes, a quick profit, or you want the luxury of owning a second home, using the equity in your first home will help you have a great return on your investment.