The limited in the term, “limited cash-out refinance” should not fool you. It is another way to refinance to lower rate and monthly payment and finance closing costs into the new loan. Given that, if you’re only familiar with cash-out and no cash-out transactions, it’s about time to meet limited cash-out refinance to broaden your refi options.
Another Rate-and-Term Refinance
Limited cash-out refinance is often considered a rate-and-term refinance. It’s because the transaction allows for the existing loan to be replaced with a new loan with a modified interest rate and term.
Under this type of refinance, you don’t take any cash out but if you do, it’s for a very limited amount. By a very limited amount, it is whichever is less of 2% of the new loan amount or $2,000.
Thus, the new refinance loan is larger than the current loan because the costs of refinancing are rolled into the loan.
Assuming you want to refinance a $100,000 mortgage using a limited cash-out refinance and the total refinancing costs is $5,000. There are two ways you can go about refinancing using a limited cash-out refinance:
- You can add the total refi costs into the new loan making the total $105,000.
- You can roll the total refi costs and take out your limited cash (whichever is less of 2% or $2,000), making the total loan amount $107,000.
Fannie Mae’s Limited Cash-Out Refinance Program
Fannie Mae has a limited cash-out refinance program whereby a borrower may receive a cash back that is “not more than the lesser of 2% of the new refinance loan amount or $2,000.” The borrower may also be refunded of certain fees and charges, which will not be included in the maximum cash back limitation, subject to proper documentation.
A limited cash-out refinance eligible under Fannie Mae’s standards, can be used to repay (i) an existing mortgage or a HELOC, both with first-lien priority status; or (ii) construction costs in building a home pursuant to a single-closing construction-to-permanent loan.
The limited cash-out refinance loan can also be used to:
- Modify the interest rate and/or term of the existing mortgage.
- Finance the payment of closing costs, prepaid items, and points.
- Buy out a co-owner.
However, the limited cash-out refinance can’t be used to pay down subordinate liens except for those:
- Incurred in connection with the property purchase.
- Loans or debts solely to finance energy improvements, such as PACE (Property Assessed Clean Energy).
Moreover, the property subject to the limited cash-out refinance should not be in the market or up for sale.
A limited cash-out refinance must have an LTV (loan-to-value), CLTV (combined loan-to-value), or HCLTV (home equity combined loan-to-value) ratio between 95.01% and 97%. If any of the three ratios exceeds 95%, then the lender is required to show documentation that Fannie Mae is the owner of the existing loan. This requirement, however, is not applicable to loans whose CLTV ratio is more than 95% as a result of a Community Seconds loan.
The loan to be refinanced should be any fixed-rate mortgage with a term reaching 30 years. Eligible property is a single-unit principal residence with all the borrowers occupying the property. To be evaluated, one of those borrowers should possess a credit score.
If you can’t afford closing costs or don’t want to deplete your savings for out-of-pocket costs, a limited cash-out refinance might just be right for you.
Justin McHood is a managing partner at Suited Connector and has been recognized by national media outlets as a financial expert for more than a decade.