Private lenders and financial institutions have been busy helping homeowners with cash-out refinancing.
In fact, these types of transactions have proven to be very popular.
CNBC (sourcing numbers from Black Knight) says the end of 2019 showed that refinance lending had nearly doubled when compared year-over-year. Cash-out refis on single-family homes were up double digits, and made up more than half of all refinances total.
But what about cash-out refinancing for investment properties?
While lenders may have shied away from such deals just a few years ago, they’re now offering property owners the chance to cash in (or should we say ‘cash-out’) on their investment property.
If you’re an investor – that is to say, someone who generates income from rental properties – a cash-out refi could be a sound financial strategy and something worth looking into.
Holding Equity in a Rental Property
Much like the benefit of building home equity and then going through a cash-out refinance, investors can reap the benefits from the cash-out of a rental property as well.
The above scenario is commonly referred to as a non-owner-occupied refinance, and the only restriction is that lenders may hold you to 75% of the appraised value of the property (commonly called the LTV, or loan-to-value). That’s the maximum set by some government-backed lenders, and means you can only refinance up to 75% of what the property is worth. In some instances, lenders may go as high as 80 percent, but it will likely be in exchange for a higher interest rate on the loan.
It boils down to one thing – being in good shape with equity (the total liquid cash value of the property) before you investigate a cash-out refinance. Experts say that rental properties with somewhere in the neighborhood of 30 to 40 percent equity are good candidates for a cash-out refi. If you’ve held ownership of the property for a number of years, you might even earn a drop in the interest rate as part of the deal.
Rules on Non-Owner Occupied Cash-Out Refinancing
As mentioned above, there are rules and guidelines for cash-out refinancing on investment and rental properties.
If you’re going through the likes of Fannie Mae, the standard eligibility requirements say:
- The loan-to-value stands at 75% for 1-unit properties and 70% for 2- to 4-unit properties.
- Your credit score needs to be very good – perhaps at 700 or better.
- You need at least six months of cash reserves (or enough money to pay the loan for a period of six months if you have an interruption in income)
- No cash-out refinance can take place if the property was purchased within the last six months. The only exception would be for properties that meet delayed financing guidelines.
The Fannie Mae guidelines are just one example. Even if you have an FHA loan, a VA loan, or you hold a conventional mortgage (not a government-backed loan), cash-out refinance options are still available. However, lender rules differ and may be more stringent or more lenient.
What Is Delayed Financing?
Delayed financing comes into play when you pay cash for a property upfront, then quickly obtain a cash-out refinance to mortgage the property (essentially, you’re paying cash so you can turn around and borrow it back again). In this scenario, if you’ve purchased the investment property within the last six months it’s still eligible for the cash-out refi.
According to Quicken Loans, this uncommon refinance option can apply if:
- Your new loan amount is not higher than the original purchase price with closing costs added in.
- You had no personal relationship with the seller of the property, known as an arms-length transaction. It means you didn’t buy the property from a friend or relative.
- No mortgage financing was used to purchase the property.
- You have documents showing the purchase price and the source of the funds used for purchase.
- You were given gift funds to purchase the property and you’re not reimbursing anyone with the proceeds from delayed financing.
Keep in mind that these are just some of the requirements you’ll face if you’re going to pursue this type of deal. Additionally, owners of investment properties in these scenarios may only take up out to 60 percent of the value when doing a cash-out refi.
You Need to Be a Strong Applicant for a Cash-Out Refi
Getting a cash-out loan on an investment property is no walk in the park. According to The Mortgage Reports, underwriting is a lot more stringent, since the cash-out aspect and the property being non-owner-occupied both heavily factor in.
In the above scenario, such loans are viewed as risky for lenders, which explains why credit requirements and proof of cash reserves have already been discussed.
Additionally, applicants will likely be asked for their current tax information, rental agreements, and property income. You might even be required to hold additional reserves (between 2-6% of any unpaid loan balances on any other investment property you own).
Finally, some lenders have rules about approving cash-out refis to anyone with more than four financed properties and may not accept your loan application in this circumstance.
Is a Cash-Out Refi Right For Your Property?
If you have equity built up in your investment property and you meet the litany of requirements to cash-out, it’s time to seriously consider your borrowing power as you move forward with the transaction.
There are a few questions you should seek the answers to, including:
- How much will your payment increase with a cash-out refinance, if at all?
- Will rental income cover the increase (if there is one?)
- Will the deal leave you ineligible for future loans?
Experts say that your focus should remain on whether a cash-out refi will prove to be a benefit in the long run and makes the most sense for your investment goals.
A Final Word On Cash-Out Refinance For Your Investment Properties
If you invest in this process, you’ll hear a lot about how the goal of refinancing is a lower interest rate. Period. But it’s not, and it shouldn’t be.
For one, Yahoo Finance points out that you can probably expect refinance rates for an investment property to be a minimum of 0.5 to 0.75 percentage points higher than a normal refinance. If you say that’s a given, then work around it. Focus on current market conditions, your credit score, income and ways your lender will determine if you can meet their qualifications.
As an investor, the more properties you can buy the more wealth you’re potentially creating. An approved cash-out refinance can help you purchase even more properties and continue to generate revenue. Positive cash flow every month is a good thing and will help you have the cash on hand to jump on future investment opportunities.
- Refinancing surges as homeowners pull out the most cash in 12 years. CNBC. Accessed at https://www.cnbc.com/2019/12/09/refinancing-surges-as-homeowners-pull-out-the-most-cash-in-12-years.html
- Eligibility Matrix, Fannie Mae. Accessed at https://singlefamily.fanniemae.com/media/20786/display
- Can I Do An FHA Cash-Out Refinance on a Rental Property? FHA News & Views. Accessed at https://www.fhanewsblog.com/2019/07/can-i-do-an-fha-cash-out-refinance-on-a-rental-property/
- Delayed Financing: An Uncommon Refinance Option for Cash Buyers. Quicken Loans. Accessed at https://www.quickenloans.com/blog/delayed-financing-uncommon-refinance-option-cash-buyers
- Do a Cash-Out Refinance on Your Rental Property: 2020 Guidelines and Mortgage Rates. The Mortage Reports. Accessed at https://themortgagereports.com/25521/cash-out-refinance-rental-property-guidelines-mortgage-rates
- How to Refinance a Rental Property. Yahoo Finance. Accessed from https://finance.yahoo.com/news/refinance-rental-property-143605131.html