With mortgage rates expected to decline in the next year, now is a great time to make yourself aware of your refinancing options so you’re ready to take advantage of the high home values and lower interest rates.
Soon, the Federal Housing Administration (FHA) loans are going to play a significant role in assisting homeowners to achieve their financial goals. Two specific types of FHA loans, FHA Streamline Loans and FHA Cash-Out Loans, serve different purposes and cater to distinct financial scenarios. Gaining a clear understanding of their differences can be beneficial for potential borrowers seeking to refinance their mortgage.
Understanding FHA Streamline Loans
FHA streamline loans are designed to reduce the hassle and paperwork involved in refinancing for those who already have an FHA mortgage. As the term 'streamline' suggests, the goal is to make the refinance process quicker, easier, and less document intensive.
Key Characteristics of FHA Streamline Loans:
- Eligibility: Borrowers need to have an existing FHA loan and a good payment history.
- Purpose: The primary objective of an FHA streamline is to lower the monthly payment. We do this by refinancing the loan to a lower interest rate. With current interest rates in the 7% range a small decrease in interest rates will make this a very popular option.
- Documentation: Streamline loans require less paperwork. In many cases, income verification or home appraisal may not be necessary. This will typically depend on the amount of equity that you have in your home.
- Cash-Out Option: With FHA streamline loans, borrowers will not be eligible to receive cash at closing.
Understanding FHA Cash-Out Loans
When we look at FHA cash-out loans, their purpose is to allow homeowners to refinance their existing mortgage and 'cash-out' their home equity. This cash can be utilized for any purpose such as paying for home improvements, consolidating high-interest debt, or even funding education expenses.
Key Characteristics of FHA Cash-Out Loans:
- Eligibility: Homeowners need to have sufficient home equity, usually at least 20%. The current limit on FHA cash-out is at 85% Loan-to-value. You do NOT have to currently have an FHA mortgage to qualify for an FHA cash-out loan. That’s one reason this option is so popular. If you need to take more money out than what’s available through a conventional program this is a great option for you.
- Purpose: While cash-out loans can also reduce interest rates or change loan terms, their primary advantage is the ability to convert home equity into cash. When interest rates do decrease, this is going to offer up a great opportunity to lower the rate and receive cash from the home. In some cases, even if you are receiving cash-out, your payment may decrease because of the drop-in interest rates.
- Documentation: Cash-out loans do require more documentation but it’s still very easy for someone to provide. We just need to do income verification, credit checks, and home appraisal. There are a few more steps but it’s still a very simple process.
- Cash received: Borrowers can do a cash-out loan on their home and receive up to 85% of the value of their home. For instance, if you have a home valued at $300,000 and your current loan-to-value (LTV) is 60% that means you can receive approximately $75,000 (25% of the equity) in cash.
Final Comparison
Streamline loans are specifically for reducing interest rates to lower your monthly payment each month. It’s a simple process, requires no appraisal (in some cases) and may not even require that we verify income. In contrast, cash-out loans allow homeowners to leverage their home equity and use it for home improvements, debt consolidation, well deserved vacations, or any other purpose they see fit.
And while streamline loans are only available for refinancing existing FHA loans, FHA cash-out loans are accessible even to those with non-FHA loans, given they meet the FHA's eligibility criteria.
Making the choice between an FHA streamline loan and an FHA cash-out loan will largely depend on a homeowner’s unique financial situation and needs. If the main goal is to reduce monthly payments or secure a lower interest rate without pulling equity from your home, an FHA streamline loan could be the best choice. Conversely, if tapping into home equity is a necessity, an FHA cash-out loan could be more beneficial.
As with any financial decision, it's crucial to consult with a mortgage professional who can guide you based on your specific circumstances, helping you to make the most informed decision possible.
