What to Expect with a Cash-Out Refinance on an ARM

Published April 29, 2022

Now that you've had an adjustable-rate mortgage for some time, you might be interested in tapping into your accumulated home equity. Opting for a cash-out refinance ARM is a great way to secure funding for an upcoming project or other significant expenses. 

Choosing a cash-out refinance with an ARM is somewhat unique and has its own set of challenges. However, despite a few hurdles expected in the refinancing process, a cash-out refinance ARM is possible and will allow you to obtain a certain amount of cash from the equity you've built up in your home. This guide provides some details of what to expect when you choose to cash-out refinance your ARM. 

Can you cash-out refinance an ARM?

Yes, you can apply for a cash-out refinance ARM. 

A cash-out refinance is somewhat unique in that it provides you with a loan that's larger than your existing mortgage. The difference between the amount you currently owe on the home and the loan amount will be paid to you in cash. This opportunity allows homeowners to pay off debt, improve the house, or handle other financial needs. If you'd like to switch to a 15-year refinance loan from an adjustable-rate mortgage, you can do so with a cash-out refinance ARM. 

How to apply for a cash-out refinance ARM

Applying for a cash-out refinance loan can be done in a few short and simple steps. First, estimate how much equity you'd like to tap with the loan. Cash-out refinancing is usually sought by homeowners who need funds for a specific reason. Whether you want to renovate your home or pay off debt, you should know the exact amount of money you'll need to complete the project. 

Before filling out your cash-out refinance application, make sure that you gather all the documentation that will need to be submitted with the application. These documents can include everything from pay stubs to bank statements. In addition, many of these documents need to be submitted to identify your current debt-to-income ratio. 

The refinance application is relatively simple to fill out. Once you submit this application, we will review and process it. Then, if the loan is approved, all that's left is to set a closing date and wait for your check.

The potential challenges of refinancing an ARM

Even though refinancing an ARM is relatively straightforward, you should be prepared for potential challenges. These challenges primarily center around the requirements that you'll be expected to meet. For instance, you'll want to have a credit score of at least 620 to be approved for this type of refinance. Borrowers with higher credit scores typically qualify for better loan terms and lower interest rates. 

It would be best if you also had as low a debt-to-income ratio as possible. This ratio refers to the total debt payments you make every month. A DTI at 45% or lower should increase your chances of obtaining a cash-out refinance ARM without any difficulties or hurdles. 

While not all mortgage refinance options require home equity of 20% or higher, there's a good chance that you will only be able to obtain a cash-out refinance ARM if you have built up 20% or more in equity. Also, remember that you must own your home for at least six months before switching from an adjustable-rate mortgage to a cash-out refinance loan. 

The benefits and disadvantages of a cash-out refinance ARM

When you seek a cash-out refinance loan, you can either change your adjustable-rate mortgage to a fixed-rate loan or another ARM loan. However, before making your decision, you should have a better idea of the pros and cons of selecting these two loan types. 

Pros and cons of a fixed-rate refinance

The primary benefits of seeking a fixed-rate refinance include:

• Monthly payments will be stable unless your insurance or taxes increase

• Allows you to avoid future increases in interest rates

• A small amount of the loan principal will be paid off every month

The issues that occur when you obtain a fixed-rate refinance include:

• Principal is paid off slower in comparison to an adjustable-rate mortgage

• Interest rates can sometimes be higher than adjustable-rate mortgages

• Closing costs can be higher depending on loan terms

Pros and cons of an adjustable-rate refinance

The primary benefits of seeking an adjustable-rate refinance include:

• You'll have access to a fixed-rate period, which can be anywhere from 3 to 10 years

• Initial interest rates during the fixed-rate period are frequently very low, which in turn, will keep your monthly payments low

• If market interest rates decrease, your interest rate will naturally decrease as well

• Adjustable-rate refinance loans usually come with payment caps that limit the amount that your interest rates can increase

The issues that occur when you obtain an adjustable-rate refinance include:

• Adjustable-rate mortgages can have very complex fees, structures, and rules, which means that you might now know the most important details of the loan before applying

• These refinance loans tend to come with prepayment penalties that will charge you a fee if you pay your loan off early

• If national interest rates increase, your interest rates would likely increase as well, which would result in higher monthly payments

• You can't properly budget because of the variability of monthly payments

If you have any questions about the feasibility of a cash-out refinance ARM, schedule an appointment. One of our experienced mortgage consultants can discuss the best options for your financial future.