A cash-out refinance allows you to convert your home equity to cash in exchange for a higher loan balance. For some homeowners, tapping into equity is an effective way to finance renovations or even pay for big ticket items like college tuition or a new car. But it can also be a successful strategy for paying off outstanding debts and reducing interest costs.
If paying off your debt is a priority, you have two options. The first option is a cash out refinance in which you receive a lump sum of cash out and are responsible for taking the money and personally allocating it to the debts you want to eliminate. Let’s say you have a big credit card balance that’s subject to a high interest rate. Once you get the disbursement from your cash-out refinance, that extra liquid capital is yours to spend as you see fit. If you use it to pay off the credit card debt, you’ll most likely save more in the long run by avoiding those high interest charges.
The second option is to do a debt consolidation. In this scenario, the exact sum of the debts you'd like to pay off will be added onto your loan amount and your lender will specifically allocate the cash to each creditor you choose. You’ll essentially be consolidating that debt into your new mortgage amount and paying whatever interest rate you locked during your refinance (likely a much more competitive number that will save you money over time) on that total sum. Note that you’ll receive individual checks from your lender made out to each of these creditors for the amount needed to pay off the account. It will then be your responsibility to forward the checks to the appropriate parties.
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