If you are feeling the weight of your student loans, you are not alone. Student debt is currently the second largest kind of debt in the US after mortgages, and it can feel as if it’s taking a very long time to pay it off. Some borrowers find that a cash-out refinance, which allows you to tap into the equity in your home and receive cash back at closing, can be a good move. In some cases, it may allow for payment terms that better suit your budget and needs.
However, a student loan cash-out refinance isn’t the right choice for everyone. It can be helpful to weigh the pros and cons to help you decide if it makes sense for your personal financial situation. Read on to learn the definition of refinancing student loans, what a cash-out refinance is, and what the upsides and downsides are.
Refinancing to Pay Off Student Loans
Before considering a cash-out refinance, let’s review what refinancing is. Typically, student loan refinancing means that a lender pays off your existing loans with a new student loan ideally at a lower interest rate, which can save you money over time.
If you have some type of federal student loans, you can only refinance with a private lender, which means losing certain federal student loan benefits and protections, such as income-driven repayment and forgiveness plans.
Also, it’s important to note that if you refinance for an extended term, you may well pay more interest over the life of the loan, even if your monthly payment is lower.
Calculate paying off your student loan before you decide whether this method makes sense for you.
Next, consider a different option. If you are a homeowner, you might look into a cash-out home refinance. This is a very different financial arrangement than a student loan refinance. When you complete a cash-out refinance, you are refinancing a home loan to tap the equity in your home and then use the funds to pay down or off your student loans.
💡 Quick Tip: Enjoy no hidden fees and special member benefits when you refinance student loans with SoFi.
What Is a Student Loan Cash-Out Refinance?
Here’s a closer look at the last option mentioned above, which can be a good path for some borrowers. If you own a home and have student loan debt, you can roll your student loan into your mortgage using a student loan cash-out refinance.
Here’s how cash-out refinance works: You get a mortgage loan that allows you to tap into your home’s equity to pay off your student loan debt. You consolidate your mortgage loan and your student debt. You also get a lump sum of money upon closing, which comes out of your home’s equity, and can be put toward your student loan debt.
If your home is valued at $450,000 and you have a $300,000 mortgage and over $50,000 in student loan debt, you might take out a cash-out refinance loan for $350,000 and get $50,000 to pay off your student loans. You would then have eliminated that educational debt, but now owe more against the value of your home.
Some notes:
• To qualify, you typically must have a credit score (a number that indicates how likely you are to pay back a loan on time) of at least 620 to get a mortgage that isn’t from a government agency.
• You also generally need to have a debt-to-income ratio (DTI) of under 43%, which refers to your monthly debt payment compared to your monthly gross income.
• You’ll also need at least 20% of equity in your home in order to take advantage of a cash-out refinance.
Your lender pays off your first mortgage, which results in a new mortgage loan, which probably has different terms than your original loan (a different type of loan and/or a different interest rate).
How Cash-Out Refinance Works for Student Loans
Typically, you can borrow up to 80% of your home’s equity. Equity refers to the difference between the current value of your home and the amount of money you owe on your mortgage.
To get a student loan cash-out refinance, you can prequalify and choose the right mortgage refinancing option for you. Your lender will detail the interest rate and monthly payments that fit your goals.
Once your application has been approved, you’ll sign your paperwork. Your lender will pay off your student loan at closing by sending the cash to your student loan servicer to take care of your student loan debt.
Taking out money for a cash-out refinance means you just move debt from one location to another. Ultimately, you still have to pay off that debt — it just takes a different form.
Recommended: Cash-Out Refinance vs HELOC
Pros of Cash-Out Refinance for Student Loans
Why might you want to use a cash-out refinance to pay off student loans? Here are some of the reasons why it might be a good choice.
• You could get a better interest rate. Before you refinance, you want to make sure you’re getting a lower interest rate than your current student loan interest rate and your current mortgage interest rate.
Calculating the new interest amount will tell you whether you’ll save money. (You’ll also want to figure in any fees.) If you lengthen your loan term along with your cash-out refinance, you may lower your monthly payments but pay more interest over the long run.
• You may tap into tax deductions. The interest you pay on student loans and your mortgage are both typically tax-deductible. However, you’ll have to itemize deductions if you choose a cash-out refinance with your mortgage.
You can take either the standard deduction or itemize deductions on your taxes. If your allowable itemized deductions are greater than your standard deduction or you cannot use the standard deduction, you can itemize. However, it’s important to note that the new larger standard deduction means you may want to consider whether it makes sense to itemize.
In tax year 2023 (meaning taxes filed by April 2024), the standard deduction for married couples filing jointly is $27,700. For single taxpayers and married individuals filing separately, the standard deduction is $13,850. For heads of households, the standard deduction is $20,800.
• You no longer have to make two payments. Instead of making both a mortgage payment and a student loan payment, you would make one payment. This can simplify your financial life and help you stay on top of your payments.
💡 Quick Tip: If you have student loans with variable rates, you may want to consider refinancing to lock in a fixed rate before rates rise. But if you’re willing to take a risk to potentially save on interest — and will be able to pay off your student loans quickly — you might consider a variable rate.
Cons of Cash-Out Refinance for Student Loans
It’s important to consider the downsides of cash-out refinancing for student loans as well.
• You give up certain borrower protections. Refinancing a federal student loan via a cash-out refinance means you forfeit certain borrower protections that come with federal loans, such as income-based repayment plans, loan forgiveness, and other options through the Department of Education.
• You turn unsecured debt into secured debt. Student loans don’t require any collateral. However, your mortgage does, which means that you turn what was once unsecured debt into secured debt. If you stop making your mortgage payments, you could lose your home to foreclosure.
• You’ll pay closing fees. You’ll pay closing costs to refinance a mortgage, which can include title fees, appraisal fees, settlement fees, recording fees, land surveys, and transfer tax. The amount you’ll pay depends on your mortgage, the terms, and your state. They can be 3% to 5% of the loan’s value. You’ll want to consider whether these fees are worth what you’ll gain by refinancing.
When to Execute a Student Loan Cash-Out Refinance
It can be hard to decide when to refinance your student loans. This option may make sense for you if you:
• Know you’ll save money in the long run: It’s important to fully understand how a student loan cash-out refinance works. If you’ve calculated your new loan amount and know you’ll save money after streamlining your debt, you could be a good candidate for a student loan cash-out refinance.
A new repayment term over a longer period may seem like a great deal because you’re lowering your monthly payments, but you’ll pay more in interest over your loan term. You may also pay more in interest due to the higher loan amount which might give you higher potential fees and expenses.
• Have a plan to tackle your debt after refinancing: It’s important to be sure that you’ll be able to make your mortgage payments every month.
• Want just one payment: Having just one loan with a longer repayment term means you simplify your debt. This way, you don’t have to keep track of multiple payments every month.
Finally, you may want to go through with a student loan cash-out refinance if you know for sure that you won’t need or be eligible for federal student loan repayment programs, forgiveness options, or other benefits, and have a plan to tackle debt. It’s a good idea to envision your top priorities — whether you want to save money, prefer just one payment, or would like to lower your monthly payments — or prefer all three benefits!
There are other reasons you may consider getting a cash-out refinance to pay off student loans, but this list gives you a jump start.
Refinancing Your Student Loans With SoFi
Considering cash-out refinancing or student-loan refinancing. SoFi offers both.
Looking to lower your monthly student loan payment? Refinancing may be one way to do it — by extending your loan term, getting a lower interest rate than what you currently have, or both. (Please note that refinancing federal loans makes them ineligible for federal forgiveness and protections. Also, lengthening your loan term may mean paying more in interest over the life of the loan.) SoFi student loan refinancing offers flexible terms that fit your budget.
FAQ
How long does underwriting take for cash-out refinance?
Refinancing a mortgage typically takes 30 to 45 days but can take up to 90 days, depending on how quickly you provide information to your lender, the complexity of the loan, and your lender or broker. Often, the faster you provide documentation, the quicker your lender can underwrite and process your loan.
How do you get your money from a cash-out refinance?
Upon closing, you get a lump sum from your lender when you get a cash-out refinance. The loan proceeds pay off your existing mortgage(s), including closing costs and any prepaid items. You can do what you want with the remaining funds.
Do you pay closing costs on a cash-out refinance?
Yes, you’ll pay closing costs to refinance a mortgage. The amount you’ll pay depends on a variety of factors but is typically 3% to 5% of the loan amount. It’s a good idea to consider how long it’ll take you to recoup your closing costs after refinancing.
About the author
Melissa Brock
Melissa Brock is a higher education and personal finance expert with more than a decade of experience writing online content. She spent 12 years in college admission prior to switching to full-time freelance writing and editing. Read full bio.
Photo credit: iStock/FatCamera
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