Does a Cash-Out Refinance Have a DTI Requirement?

Thousands of homeowners choose a cash-out refinance loan to fund house improvements, debt consolidation, investment home purchase and other major expenses. A critical aspect of qualifying for a cash-out refinance is meeting the lender’s debt-to-income ratio (DTI) requirement. The DTI ratio is a key metric used by banks and lenders to assess a borrower’s ability to manage and repay debt.

Debt to Income Requirements for Cash-Out Refinancing

We published this article explain what DTI is, how it affects cash-out refinancing, and what you can do to qualify for this type of loan.

Most mortgage lenders set specific DTI requirements for cash-out refinances to ensure borrowers can handle the new home loan payments.

These debt to income requirements vary by loan type and cash-out refi lender but generally fall within these ranges:

• Conventional Loans: DTI should typically not exceed 43%, though some lenders may allow up to 50% with compensating factors.
• FHA Loans: FHA cash-out refinance loans often allow higher DTI ratios, up to 50%. The FHA cash out refinance remains a very flexible option for homeowners with below average credit scores and high debt to income ratios.
• VA Loans: VA cash-out refinances are more flexible, with some lenders allowing DTI ratios as high as 60%. The VA cash out refinance is very popular with veterans.
• Jumbo Loans: These loans for high-value properties usually have stricter DTI limits, often capped at 40–43%.
• Home Equity Loans: Most 2nd mortgage lenders have a maximum DTI capped at 43%, but there are a few private lenders offering home equity loan DTI’s up to 50% with high credit scores. These home interest rates are typically lower than rates on personal loans.

Why Does DTI Matter for Cash-Out Refinancing?

Lenders use the DTI ratio to assess your financial health and risk level. A lower DTI indicates that you have more income available to cover your mortgage payments, making you a less risky borrower. Conversely, a higher DTI suggests you’re carrying significant debt relative to your income, which may raise red flags for lenders. Many savvy homeowners will achieve debt consolidation that offers lower monthly payments and lower debt to income ratios.

For cash-out refinancing, DTI is particularly important because:

1. Increased Loan Amount: The new loan balance will likely be higher than your original mortgage, resulting in higher monthly payments.
2. Lender Risk: A higher DTI increases the lender’s risk, especially in case of financial hardship or economic downturns.
3. Regulatory Compliance: Lenders must adhere to federal guidelines ensuring borrowers have the ability to repay their loans.

4 Key Factors in Cash-Out Refinancing Approval

While DTI is a critical requirement, lenders also evaluate other factors, including:

1. Credit Score

Most lenders require a minimum credit score for cash-out refinancing, often 620 for conventional cash out refinance and 580 for FHA cash-out refinances. Higher credit scores improve your chances of approval and qualify you for better interest rates.

2. Loan-to-Value (LTV) Ratio

The LTV ratio compares the loan amount to the appraised value of your home. For cash-out refinances:

• Conventional mortgages typically allow up to 80% LTV.
• FHA loans may allow up to 80–85% LTV.
• VA loans can permit up to 100% LTV in some cases.

3. Employment and Income Stability

Lenders assess your employment history and income stability to ensure you can handle the new loan payments. Providing consistent documentation, such as pay stubs or tax returns, is crucial.

4. Property Type

Primary residences, second homes, and investment properties may have different DTI and LTV requirements. Primary residences usually have the most lenient terms.

How to Improve Your DTI Ratio for Cash-Out Refinancing

If your DTI ratio is too high to qualify for a cash-out refinance, consider these strategies to lower it:

1. Pay Down Debt

Reducing your credit card balances, auto loans, or personal loans can significantly lower your monthly debt obligations and improve your DTI.

2. Increase Your Income

Boosting your income through a raise, side job, or additional sources of revenue can help reduce your DTI ratio.

3. Refinance with a Co-Borrower

Adding a co-borrower with a strong financial profile can increase your combined income, improving your DTI.

4. Consolidate Debt

Using the cash-out refinance itself to consolidate high-interest debts can lower your monthly payments, though this approach requires careful planning to avoid overleveraging.

5. Extend Loan Terms

Opting for a longer loan term can reduce monthly payments, though it may result in higher overall interest costs.

DTI in Different Cash Out Refi Scenarios

Conventional Loan Example

• Gross Monthly Income: $8,000
• Existing Debt Payments: $2,500
• New Mortgage Payment: $2,000
• New DTI: (2500+20008000)×100=56.25%\left( \frac{2500 + 2000}{8000} \right) \times 100 = 56.25\%(80002500+2000​)×100=56.25%

This DTI may exceed the acceptable limit for conventional cash out refinance programs, making approval unlikely without reducing debt or increasing income.

FHA Loan Example

• Gross Monthly Income: $5,500
• Existing Debt Payments: $1,500
• New Mortgage Payment: $1,500
• New DTI: (1500+15005500)×100=54.55%\left( \frac{1500 + 1500}{5500} \right) \times 100 = 54.55\%(55001500+1500​)×100=54.55%

An FHA cash-out refinance may approve this DTI, especially with compensating factors like savings or a strong credit score.

Timing and Preparation for Cash-Out Refinancing

Timing is critical when applying for a cash-out refinance. Here’s how to prepare:

1. Check Your Credit Report: Ensure there are no errors or negative items that could impact your creditworthiness.
2. Calculate Your DTI: Use your current income and debt obligations to estimate your DTI ratio and determine if you meet lender requirements.
3. Improve Financial Health: Pay down debts and avoid taking on new loans or credit cards before applying.
4. Shop Around for Lenders: Different lenders have varying DTI requirements and loan terms. Comparing multiple offers can help you find the best fit. If you already have a low interest rate on your first mortgage, consider a home equity loan for cash out.

A cash-out refinance does have a DTI requirement, which varies by loan type and lender. This ratio is a crucial factor in determining whether you qualify for the loan and what terms you’ll receive. By understanding how DTI works and taking steps to improve it, you can increase your chances of approval and secure favorable terms.

Before proceeding, evaluate your financial situation, shop around for competitive offers, and consult with a mortgage professional to ensure that a cash-out refinance aligns with your goals. When managed responsibly, this financial tool can unlock the equity in your home and provide significant benefits for your financial future

Cash Out Refinance DTI FAQ:

What Is a Cash-Out Refinance?  A cash-out refinance replaces your existing mortgage with a new, larger loan. The difference between the old loan balance and the new loan amount is disbursed to you as cash, which you can use for various purposes. For example:

• Current Mortgage Balance: $200,000
• New Loan Amount: $250,000
• Cash-Out Amount: $50,000

The new loan typically has different terms, such as a new interest rate or repayment period. Cash-out refinancing is especially attractive during periods of low interest rates, as homeowners can secure better terms while accessing funds.

What Is a Debt-to-Income (DTI) Ratio? The debt-to-income ratio is a percentage that compares your total monthly debt payments to your gross monthly income. It helps lenders determine whether you can afford to take on additional debt. The formula for calculating DTI is:

DTI=(Total Monthly Debt Payments Gross Monthly Income)×100\text{DTI} = \left( \frac{\text{Total Monthly Debt Payments}}{\text{Gross Monthly Income}} \right) \times 100DTI=(Gross Monthly Income Total Monthly Debt Payments​)×100

For example, if your total monthly debt payments are $2,000 and your gross monthly income is $6,000, your DTI is:

(20006000)×100=33%\left( \frac{2000}{6000} \right) \times 100 = 33\%(60002000​)×100=33%

Do You Have to Pay Taxes on a Cash-Out Refinance?
No, you typically do not have to pay taxes on the funds received from a cash-out refinance because it’s considered borrowed money, not income. However, if you use the funds for non-home-related purposes, such as paying off personal debt, the interest may not be tax-deductible. To qualify for mortgage interest deductions, the cash-out must generally be used for substantial home improvements. Consult a tax advisor for specific guidance.

How Long Does a Cash-Out Refinance Take?
A cash-out refinance typically takes 30 to 45 days to complete, depending on the lender and borrower preparedness. The process involves submitting an application, verifying financial documents, appraising the property, underwriting, and closing. Delays can occur if documentation is incomplete or during busy market periods. To expedite the process, ensure you provide all required paperwork promptly and work with a lender that offers efficient processing times.

What Is the Minimum Credit Score for a Cash-Out Refinance?
The minimum credit score required for a cash-out refinance depends on the loan type and lender. Conventional home loans generally require a 620 minimum score, while FHA loans may approve a cash out refinance with bad credit with scores as low as 580. Higher credit scores improve your chances of approval and better interest rates. For VA loans, no specific minimum is mandated, but lenders typically prefer scores above 600. Always check with your lender for their specific requirements.

How much are the closing costs on cash-out refinancing on average?
Closing costs for a cash-out refinance typically range between 2% and 5% of the loan amount. For example, on a $200,000 loan, closing costs may be between $4,000 and $10,000. These costs include fees for loan origination, appraisal, title insurance, credit checks, and other administrative expenses. The exact amount depends on factors like your lender, location, and loan size. Some lenders offer “no-closing-cost” options, which roll the fees into the loan balance or interest rate. Always review the loan estimate provided by your lender to understand the specific closing costs for your cash-out refinance.