If you’re a homeowner in need of funds, a cash-out refinance is worth exploring. A home may be your biggest investment, and this type of refinance loan is a way to convert the equity that you’ve been building in your property.
However, a refinance can be offered with a high-interest rate and fees, or can be denied entirely if you don’t fit the mold of the mortgage lender’s ideal borrower.
How can you minimize your chance of receiving a cash-out refinance denied application? Let’s take a look at common reasons people are denied mortgage refinancing, particularly cash-out refinancing, as well as some better options to consider.
Can a Cash-Out Refinance Be Denied?
To state it clearly—yes, you can be denied a cash-out refinance. But why?
A cash-out refinance is unique in that you borrow more than the amount owed on your house or real estate. In other words, a cash-out refinance replaces your old mortgage loan. However, the refinance will have a larger amount owed than the previous loan, allowing homeowners to use their mortgage to get cash.
How is this done? At closing, you sign a new loan contract that covers the remainder of your current mortgage loan plus the extra amount of cash you want back. When you make your monthly mortgage payment, that amount of cashback is rolled into what you’re paying.
As with any mortgage application, the lender is looking at your credit score, debt ratio, payment history, and other factors to decide whether to take you on as a borrower who’s likely to repay the loan.
Even if you’re working with the same mortgage lender as your current mortgage, the factors that make up your desirability as a borrower—or the requirements and limits of their lending policies—may have changed since your original loan.
What Is the Minimum Credit Score for a Cash-out Refinance?
A cash-out refinance is a higher-risk loan than a conventional refinance. That’s because the loan size has increased with the same amount of collateral that remains in the borrower’s hands, which the borrower will need to maintain and protect.
Lenders are going to look closely at your ability to repay the loan, which includes looking at minimum thresholds for credit scores.
Typically, the minimum credit score for a cash-out refinance is:
- 620 – 720 for most traditional lenders
- 600 for a limited number of traditional lenders
- 500 – 580 for FHA cash-out refinances
- No set minimum for VA loans
What if there are multiple buyers? If a couple (or more) are buying a home together, then lenders will usually either work from the lowest score or calculate the average of multiple credit scores and use that in approving the loan and determining the interest rate offered.
However, they may also use the lowest score as a cut-off to automatically deny a loan.
Why Was My Cash-Out Refinance Denied?
Your application for a cash-out refinance can be denied for several reasons. While lenders won’t give you the full ingredient list of their loan-reviewing secret sauce, they will tell you the public-facing reasons your loan was denied.
Below are seven reasons you could be denied a refinance mortgage.
1. You Don’t Have Enough Equity Based on Appraised Value
Home equity is how much of your property you fully own. For instance, if at the time of closing on your first mortgage you made a $10,000 down payment on a $200,000 home, then your starting home equity was 5%. Over time, your home equity grows in two ways:
- Making payments – If you’ve been making your monthly mortgage payments for a few years, you’re slowly tipping the seesaw more in your direction and owning more of your property.
- Appreciating value – Real estate is a popular investment because most property gains value over time. If your parents spent $60,000 on a three-bedroom house in the 1970s and maintained it with some upgrades over time, it might be worth $360,000 in today’s market.
Your home equity is calculated by subtracting what you still owe on your current mortgage(s) from the current market value of your property. While you can take a stab at your current property value with an online tool, the final value is calculated by a professional appraisal done under the lender’s approval.
If the appraiser uncovers information that downgrades your property value (for instance, foundation damage) or circumstances have caused a short-term drop in market values in your neighborhood, a lower-than-expected market value means that your home equity may be less than you counted on.
Disagree with the appraisal results? Talk to your loan officer, state your concerns, and request a second appraisal. Although some valuation factors are objective, two separate appraisers can return significantly different interpretations and results.
2. Your House Doesn’t Pass Appraisal
While a professional appraisal is done to determine an official current market value for your home—or the best-educated guess at what your home would sell at today without actually selling it—it also serves to confirm that the house is in condition for legal sale.
After conducting a home appraisal checklist, the appraiser may return a report noting that the property could not be put on the market without significant changes related to code compliance or health and safety issues. Concerns may include:
- Structural soundness of the foundation
- Earth-to-wood contact
- Exposed or dangerous electrical components
- Risk of lead-based paint
- Rotting or infested wood
- Mold or water accumulation
- Broken or significantly problematic plumbing or HVAC systems
3. Your Home Equity Is Too Low Relative to Your Borrower Profile
While lenders typically have guidelines on how much equity you must own for a cash-out refinance, your borrower profile may be a factor in changing that number for you.
For instance, conventional lenders usually require borrowers to retain at least 20% home equity and borrow no more than 80% of that amount, or no more than 90% for some lenders. But for a high-risk applicant carrying other debt, they may want to further limit the amount of cash-back borrowed to a lower percentage of their owned equity.
4. Your Credit Score Doesn’t Add Up
While there are common elements that are considered, such as credit scores, each lender has a proprietary calculation that may take dozens of factors into account to provide a final yes or no to a loan application. However, credit score requirements can make it difficult to refinance with bad credit.
Traditional lenders usually set a minimum credit score of 620 (or 580 for FHA loans). However, this doesn’t mean that you’re an automatic “yes” if your score is 620, it only means that you’re not an automatic “no” solely based on that score.
If your credit score is 650, you have a spotty monthly payment history, and you’re carrying other types of debt, the combination of these factors, rather than any one of them, may trigger a refinance denial.
Before you apply for a mortgage refinance, check your credit score and history. There are many resources online detailing how to improve your credit score (both long term and what you can do for quick fixes) such as this resource at Debt.org.
5. Your Job or Income Has Changed
While much of borrower profiling is looking backward—at your payment, employment, and credit histories—your current employment and income are also considered upon applying.
When considering denials, loan officers are looking for either inherently risky or risky-because-it’s-new situations. This may include one of these changes over the past 24 months:
- Leaving a job to become self-employed
- Moving from full-time, year-round employment to part-time or seasonal employment
- A significant drop in salary or wages
- Switching from salaried employment to commission-based pay
- A downwardly mobile career change
6. Your Payment History Is Imperfect
If you’re behind on mortgage payments or your loan has entered default in the past, a lender may be reluctant to extend a larger, cash-out refinance loan to you.
If you don’t have a faultless payment history, check with your mortgage provider to see if they have policies (such as requiring a set period of on-time payments prior to a new loan) and explain what you’re planning before submitting your application.
7. Your Bank Accounts Display Red Flags
This possibility may feel a bit intrusive: a loan officer could refuse your refinance based on what they do or do not find in your bank accounts.
With a new mortgage, a paper trail of bank statements is provided by the borrower to confirm that the down payment comes from a legal, approved source. While this doesn’t apply to a refinance, a bank statement review may still play a role in the outcome of a refinance application for some lenders. This includes:
- Cash reserves – If a lender requires the borrower to have a certain amount of emergency funds available (such as three to six months), bank statements may be requested to prove it.
- Suspicious activity – If providing bank statements is part of the application process, loan officers may take the opportunity to review them for unusual activity, particularly large, unexplained, or unsourceable deposits. While it may not be a stated reason, what they interpret as red flags on your statements could weigh against you in a loan decision.
What to Do if Your Refinance Is Denied
Can you get denied for a refinance? Yes. However, upon denial, you can speak to the lender to identify reasons for denial and possible solutions. To that end, ask questions surrounding:
- Exactly why the application was denied
- If there were multiple factors considered (make sure you get the full picture vs. a quick response)
- What would be the minimum change(s) needed to approve the application
If you were counting on a cash-out refinance to respond to a current hardship or need, then write up a plan that takes into account:
- The steps and timeline that would be needed to successfully re-apply for a refi
- Investigating other options to convert your home equity such as a sale-leaseback
- Other sources of income for hardship borrowings, such as a family or co-signed loan
- Advice and advocacy from a nonprofit credit counselor
Looking for a Better Way to Turn Your Home Equity into Cash?
Homeowners build up equity in their homes over time but don’t always know how to make use of it. If you sell your home, then you can convert all that equity to cash—every dollar that comes in after the mortgage is paid off is yours.
But what if you want to stay in your home? Instead of having direct access to your investment, traditional lenders and options like a cash-out refinance only allow you to turn a small part of that equity into cash—and only if you fit the lender’s profile. A sale-leaseback could be the solution for you.
If you get denied for a cash-out refinance, know you are not alone. In order for this option to work for you, there are so many qualifications that must match up. Be sure to look into alternative financial solutions and when in doubt, consult a financial advisor to help you determine what your best option is moving forward.
Investopedia. How Do I Calculate How Much Home Equity I Have? https://www.investopedia.com/ask/answers/070715/how-do-i-calculate-how-much-home-equity-i-have.asp
Debt.org. How to Increase Your Credit Score. https://www.debt.org/credit/improving-your-score/
FHANewsBlog.com. Reasons You Might Be Denied A Mortgage. https://www.fhanewsblog.com/2021/06/reasons-you-might-be-denied-a-mortgage/