VA Cash-Out Refinance: What Is It, And How Does It Work?

The VA loan program has brought myriad benefits to American veterans and members of the military for decades. For instance, VA loans – mortgages insured by the Department of Veterans Affairs – are a great benefit for veterans, allowing qualified applicants to get into a home with 0% down.

In addition, VA cash-out refinance loans can be a godsend. They are a remarkably useful tool for homeowners looking to tap into their home’s equity.

What Is A VA Cash-Out Refinance Loan? 

A cash-out refinance is a mortgage loan that you take out to replace your existing mortgage. The new cash-out refinance loan will be for a larger amount than what you owe on your current loan, allowing you to pocket the difference between the new loan and your current loan’s balance.

Why might a homeowner want to do this? While it can be risky to take money out of your home, there can be situations when the move makes sense. Maybe you want to use the money to make value-adding upgrades to your property or pay for pricey repairs. Or you can use the money for other costly life events, like college tuition. In terms of interest rates, low VA cash-out refinance rates can make this option more economical than using a credit card or personal loan.

How Does A VA Cash-Out Refinance Work?

The VA cash-out refinance program is based on your home equity, which is the portion of your home's value that you truly own – the difference between your property's current market value and the outstanding balance on your mortgage. The VA cash-out refinance loan lets borrowers tap into the full amount of their home equity, which is notable because other cash-out refinance loans generally have a maximum loan-to-value ratio (LTV) of 80% (meaning you need to keep 20% equity in your home). Not so for VA borrowers, who can borrow 100% of their home’s value.

Here’s an example of how the VA cash-out program works: Say your home is valued at $350,000, and after a few years of paying off your current mortgage, you’ve winnowed your loan balance down to $250,000. You decide you want to tap into your home’s equity to pay for a home improvement project, so you get a new mortgage from a lender for $280,000. Most of that loan amount goes toward paying off your existing mortgage, and then you get the remaining $30,000 in cash at closing. That’s a cash-out refinance.

VA Cash-Out Refinance Requirements

Because this is a Department of Veterans Affairs program, there are certain requirements for this type of refinancing. They include:

• Being available only to active duty military service members, veterans, National Guard and Reserve members, and qualifying surviving spouses.
  • Note: Members of these groups must meet certain service requirements to qualify for a VA Certificate of Eligibility (COE), which certifies that they’re eligible for a VA loan. (These loans come with the benefit of being backed by the VA, so lenders are often able to offer more favorable terms or lend to borrowers who might have trouble qualifying for a conventional loan.)
• Having a minimum credit score. Some lenders allow credit scores as low as 580, while others require a score of at least 640. Additionally, the VA generally recommends that borrowers have a debt-to-income ratio at or below 41%.
• Conducting an appraisal, as the amount you can borrow will be based on your home’s appraised value.

VA Cash-Out Refinance Rates

Thanks to their VA backing, VA loans typically have lower rates than conventional loans because they pose less risk to the lender.

However, when you are mulling any type of refinance, it’s important to consider how much your rate might change and how that could affect your monthly payments and overall interest costs. If you got your current loan when rates were especially low, for example, and rates are now significantly higher, getting a new loan might not make good financial sense.

VA Cash-Out Refinance Pros And Cons

There are benefits and drawbacks to participating in this program. Let’s explore them. 

Pros

There are myriad benefits to taking out a VA cash-out loan, including:

• You have the flexibility to use the funds in numerous ways, such as home improvements, debt consolidation, education expenses or any other financial need.
• The program often has less stringent borrower requirements compared to conventional loans, and veterans may find it easier to qualify. This can be especially beneficial for those who may not meet the strict criteria of other loan types.
• The VA cash-out refinance program typically offers competitive interest rates, which make these loans an attractive option for some borrowers. This can lead to lower monthly payments and more manageable long-term financial planning, enhancing the overall affordability of the loan.
• VA cash-out loans do not require borrowers to pay for private mortgage insurance (PMI), which can result in significant cost savings over the life of the loan.

Cons

Taking out a VA cash-out refinance brings some cons, however, such as:

• Borrowers opting for a VA cash-out loan typically must cover closing costs, which can include fees for the appraisal, title insurance and other associated expenses. These costs can add a significant upfront financial burden and may result in a higher overall loan amount.
• The VA cash-out process is generally more complex and time-consuming than the VA Interest Rate Reduction Refinance Loan (IRRRL) option. Borrowers pursuing a VA cash-out loan may encounter additional documentation requirements, longer processing times and a more involved underwriting process.
• A VA cash-out refinance may result in higher long-term interest costs and extended mortgage terms. This could mean paying more interest over the life of the loan, potentially making it a less cost-effective choice.
• Lastly, accessing a significant portion of home equity through a cash-out refinance can increase the risk of overleveraging your property. If the housing market experiences a downturn, you could find yourself owing more than your home's value, which may hinder your ability to sell or refinance in the future.

VA Cash-Out Refinance FAQs

Questions often arise when discussing the VA cash-out refinance program. These questions typically include:

Is A VA Cash-Out Refinance A Good Idea?

A VA cash-out refinance can be a good idea if it matches your financial circumstances and goals. For instance, this program can be a good fit for eligible applicants who need funds for home improvements, debt consolidation or educational expenses. However, it’s essential to carefully consider the associated closing costs and the impact of increasing your loan balance, as well as ensuring that your long-term financial plans align with the loan costs.

How Much Does A VA Cash-Out Refinance Cost?

The cost of a VA cash-out refinance varies depending on several factors, including the VA funding fee, closing costs and loan amount. On average, borrowers can expect to pay 3% to 6% of the total loan amount in closing costs.

Can I Convert 100% Of My Equity With A VA Cash-Out Refinance?

In theory, the VA allows cash-out refinancers to borrow up to 100% of a home’s equity – similar to how borrowers can buy a home with 0% down using a VA purchase loan.

However, not all lenders offer this option, so some VA cash-out borrowers may need to leave at least 10% equity in their homes. You could also be limited by the value of the property you’re refinancing. Before approving your loan, a lender will order an appraisal, and the amount you can borrow will be based on your home’s appraised value.

What Can I Do With A VA Cash-Out Refinance?

When you take cash out of your home, that money is yours to use as you like. Some common uses of cash-out refinance funds include:

• Funding home improvements or renovations that have the potential to boost the home’s value.
• Consolidating debt, especially since mortgages often have lower interest rates than other types of debt.
• Covering the cost of college tuition.

The Bottom Line

A VA cash-out refinancing loan presents both advantages and disadvantages that borrowers should thoughtfully consider based on their individual financial needs and goals. On the positive side, it offers wide-ranging versatility in using funds, looser borrower requirements, competitive interest rates and government backing. There are also potential drawbacks, however, including the need to cover closing costs and the relatively more complex application process compared to other VA loan options.

Ultimately, the decision to pursue a VA cash-out refinance should align with your specific circumstances and long-term financial strategy. If a VA cash-out refinance loan is right for you, get started on the approval process today!