The Difference Between Rate and Term Refinance vs Cash Out Refinance

Refinancing can be a powerful tool for real estate investors looking to optimize loan terms, access capital for future investments, or increase cash flow. 

The two main types of refinancing—rate and term refinance and cash-out refinance—serve different financial objectives. 

Understanding how each works is a core principle for maximizing returns and managing risk.

This article explores the key differences between rate and term refinance vs. cash-out refinance and how each can be leveraged to enhance investment strategies.

What is a rate and term refinance?

A rate and term refinance adjusts the interest rate, loan term, or both on an existing property loan. It’s often used to reduce monthly payments, shorten the loan term, or make the switch from an adjustable-rate mortgage (ARM) to a more stable fixed-rate mortgage.

Key benefits of rate and term refinance

The main advantage of a rate and term refinance is saving money by reducing the loan’s interest rate, lowering monthly payments, and improving cash flow. 

Shortening the loan term also helps investors build equity faster and pay off the property more quickly.

Common reasons for rate and term refinancing

1. Lowering the interest rate: Investors refinance to secure lower interest rates and reduce monthly payments, freeing up cash for other investments.
2. Switching to a fixed-rate mortgage: Investors may convert an ARM to a fixed-rate loan to lock in a consistent payment as a hedge against rising interest rates.
3. Reducing the loan term: Refinancing to a shorter term allows investors to pay off properties faster, build equity, and free up capital for future opportunities.

What is a cash-out refinance?

A cash-out refinance allows investors to access equity by borrowing more than the current mortgage balance and taking the excess in cash. 

This strategy is ideal for funding new investments, renovating properties, or consolidating high-interest debt.

Key benefits of cash-out refinance

Cash-out refinancing provides significant capital, often at lower interest rates than other financing methods. 

Investors can use the funds to grow their portfolio, upgrade properties, or consolidate debt while leveraging their property’s equity.

Common reasons for cash-out refinancing

1. New property acquisitions: Many investors use cash-out refinances to fund additional property purchases, allowing them to expand their portfolio without selling existing assets.
2. Renovations: Funds from a cash-out refinance can be used for property improvements that increase rental income or property value.
3. Debt consolidation: Cash-out refinancing can help investors pay off higher-interest loans, reducing overall debt service costs.

Differences between rate and term refinance vs cash-out refinance

While both options involve refinancing a property, rate and term refinance and cash-out refinance have distinct purposes and effects on an investor’s portfolio.

Purpose

• Rate and term refinance: This option focuses on improving loan terms—such as lowering interest rates or shortening the loan term—to reduce costs and improve cash flow.
• Cash-out refinance: This option allows investors to extract equity from the property to fund new projects, renovations, or other financial goals.

Loan balance and monthly payments

• Rate and term refinance: The goal here is to reduce monthly payments or shorten the loan term—the loan balance typically stays the same, though it may increase slightly if closing costs are rolled into the new loan.
• Cash-out refinance: The loan balance increases as the investor borrows additional funds, resulting in higher monthly payments.

Loan amount and interest rates

• Rate and term refinance: The new loan amount is usually the same as the original mortgage balance, and the interest rate is typically lower if market conditions are favorable.
• Cash-out refinance: The loan amount is higher due to the cash being taken out, and the interest rate may be slightly higher than a rate and term refinance due to the increased loan amount.

Loan qualification and criteria

Qualifying for a rate and term refinance vs. a cash-out refinance requires a solid financial profile, though cash-out refinances may have stricter requirements due to the increased loan amount.

Credit score and income

• Rate and term refinance: Lenders assess the investor’s credit score, income, and debt-to-income (DTI) ratio. A good financial profile helps secure better rates.
• Cash-out refinance: Since the loan amount increases, stricter qualifications may apply. Investors need solid cash flow from their properties and a strong credit score to manage higher payments.

Loan-to-value ratio (LTV)

• Rate and term refinance: Lenders are generally more flexible with LTV ratios since no additional funds are being borrowed.
• Cash-out refinance: Lenders often require an LTV ratio of 75% or less to ensure sufficient equity remains in the property.

Costs involved in refinancing

Both refinancing options involve closing costs and appraisal fees, but cash-out refinances tend to have higher costs due to the increased loan balance and risk for lenders.

Rate and term refinance costs

A rate and term refinance generally has lower costs, as the loan amount typically remains the same.

Investors should calculate how long it will take to recover these costs through savings on monthly payments.

Cash out refinance costs

With a cash-out refinance, higher costs are involved due to the increased loan balance. 

However, these costs may be justified if the cash is used for property improvements, new acquisitions, or paying off high-interest debt.

Rate and term refinance vs cash out: The bottom line

For real estate investors, choosing between a rate and term refinance and a cash out refinance depends on investment goals and financial needs.

• A rate and term refinance is ideal for improving loan terms, lowering monthly payments, or shortening the loan term to build equity faster
• A cash-out refinance is suited for investors looking to access their property’s equity to fund acquisitions, renovations, or other projects

Both refinancing options can help you optimize your portfolios, improve cash flow, and expand your real estate holdings. 

Understanding the differences between the two allows investors like you to make better-informed decisions that align with your broader investment strategies.

Park Place Finance has your investment solution

If you’re ready to discover your best financing solution—whether through refinancing or other hard money options—you can start your application with Park Place Finance today or reach out to one of our team members at (866) 407-1599.