Cash-out mortgage refinancing isn't always a bad idea, but if undertaken imprudently, it could leave you financially worse off in the long run. Under this type of refinancing, a homeowner obtains a new mortgage for a larger amount than the existing mortgage and pockets the difference. For example, if the current mortgage is $50,000, the homeowner may refinance for $80,000 and receive the $30,000 difference in cash.
The bottom line is you're taking out an additional loan and increasing your debt, says Harrine Freeman, CEO of H.E. Freeman Enterprises in Bethesda, Md. This could mean facing higher monthly payments, increased costs for homeowner's insurance, payments for private mortgage insurance and a longer loan life. Don't forget to factor in closing costs, which could run several hundred dollars or more, adds Freeman. Also, your credit score could decrease because you now owe more debt.
Worst-case scenario? If you default on your mortgage after the refinancing, you could find yourself without a home, with greater liabilities and with a lower credit rating.
If you must: Don't use the money for frivolities or short-term purposes. "Use the cash-out to do something that generates income, like starting a business," Freeman says.