If you’re planning to renovate your home, whether you intend to continue to live in it or to sell it at a profit, you need to think about how to pay for the renovations. Of course, it’s possible you have the cash on hand, which is great. But if not, there are a few financing options you can look into. It’s common to get a home equity line of credit (HELOC) or simply take out an additional loan. However, another option you may not be aware of is cash-out refinancing. It works by refinancing to a loan amount higher than your current loan balance, and taking the difference as cash.
The most important thing to consider when determining if you should get a cash-out refinance loan is the interest rate. It very likely won’t be the same as your current interest rate. If the rate is higher or even the same, it’s probably financially negative in the long run unless you can increase your home’s value significantly with the renovations. That’s why it’s a good option specifically for renovations. On the other hand, it’s entirely possible the rate is lower, or simply lower than traditional loans or HELOCs, in which case it’s a good financing option for any purpose. However, you may not want to use cash-out refinancing for large projects. Since you don’t receive the entire value of the new loan, but only the difference between the new loan balance and old loan balance, you’d need to increase the principal significantly to finance large projects. This could increase your interest payments by quite a bit even if the rate is lower.