If you are looking to tap into your home’s equity, a cash-out refinance might seem like the perfect solution. You can use the extra cash to pay off debt, renovate your home, or invest in other opportunities. But getting approved isn’t always easy. Lenders have strict requirements, and even if you have been paying your mortgage on time, other factors can still impact your approval.
Understanding what affects your chances can help you prepare and increase the likelihood of approval. Here’s what lenders look at when deciding whether to approve your cash-out refinance.
1. Your Credit Score and the Money Market Impact
Your credit score plays a huge role in whether you qualify for a cash-out refinance. Lenders use it to determine how responsible you are with debt. A higher score means you’re seen as a lower risk, which can lead to better loan terms. Most lenders require a score of at least 620, but if you want the best interest rates, you should aim for a score in the 700s.
The money market also affects refinance approvals. When interest rates are high, lenders may tighten their requirements, making it harder to qualify. If rates drop, you might have a better chance of getting approved with favorable terms.
2. Your Home Equity and Loan-to-Value Ratio
Lenders want to make sure you have enough equity in your home before approving a cash-out refinance. Equity is the difference between what your home is worth and how much you still owe on your mortgage. Most lenders require you to keep at least 20% equity in your home after refinancing.
For example, if your home is worth $300,000 and you owe $200,000, you have $100,000 in equity. If a lender requires you to keep 20% equity ($60,000 in this case), the maximum cash-out amount would be $40,000.
3. Your Debt-to-Income Ratio Matters
Even if you have a solid credit score and plenty of home equity, lenders will still check your debt-to-income (DTI) ratio. This measures how much of your monthly income goes toward paying debts, including your mortgage, credit cards, and car loans.
Most lenders prefer a DTI ratio of 43% or lower. If too much of your income is already tied up in debt payments, lenders might see you as a risk and deny your application. If your DTI is too high, you might want to pay down some debt before applying for a refinance.
4. Stability of Your Income and Employment
Lenders want to know that you have a steady income before approving a cash-out refinance. If you have been at your current job for at least two years, you’re in a strong position. If you recently changed jobs, lenders might ask for additional proof of stable income.
Self-employed borrowers may have a harder time getting approved because their income can fluctuate. If you’re self-employed, expect to provide at least two years of tax returns to show consistent earnings.
5. The Type of Loan You Choose for Cash-Out Refinancing
The loan type you choose for cash out refinancing can affect your approval. Conventional loans have stricter requirements, while government-backed loans like FHA may have more flexible terms.
For example, VA loans allow eligible veterans to take out up to 100% of their home’s equity, while most conventional lenders cap the loan-to-value ratio at 80%. If you are looking for an option that’s easier to qualify for, an FHA cash-out refinance might be worth considering.
