What’s the difference between rate-and-term and cash-out refinance?

If you’re exploring mortgage options and keep seeing the terms ‘rate-and-term refinance’ and ‘cash-out refinance,’ you’re not alone.

This guide walks first-time homeowners and seasoned buyers through what each option means, how they work, and which might fit your goals. No prior knowledge is needed.

Quick Answer

A rate-and-term refinance replaces your existing mortgage with a new loan that changes only the interest rate, loan term, or both, without giving you extra cash. A cash-out refinance does the same but also lets you borrow against your home equity, receiving a lump sum of cash at closing while increasing your loan balance.

What does a rate-and-term refinance do?

A rate-and-term refinance pays off your current mortgage and creates a new loan with a different interest rate, a different loan term, or both. The amount you borrow stays roughly the same as what you owe, so you do not receive cash at closing. This type of refinance is often used to lower monthly payments, shorten the time to pay off the loan, or switch from an adjustable-rate mortgage to a fixed-rate mortgage.

When you keep the loan balance unchanged, your loan‑to‑value ratio (LTV) does not increase. LTV is the percentage of your home’s appraised value that is financed by the mortgage. Because the balance stays the same, lenders view the risk as similar to your original loan, which can help you qualify for a better rate if your credit has improved or market rates have fallen.

What does a cash-out refinance do?

A cash-out refinance also replaces your current mortgage with a new loan, but the new loan amount is larger than what you owe. The difference is paid to you in cash at closing, which you can use for home improvements, debt consolidation, or other expenses. Because you are taking out more money, your loan balance goes up and your LTV ratio rises.

Increasing the loan amount means the lender is taking on more risk, so cash‑out refinances often come with slightly higher interest rates or stricter credit requirements than a rate‑and‑term refinance. However, if you have built up substantial equity, you may still qualify for a competitive rate while accessing the cash you need.

When should I choose a rate-and-term refinance?

Choose a rate‑and‑term refinance when your main goal is to adjust the cost or length of your mortgage without needing extra funds. Common reasons include securing a lower interest rate to reduce monthly payments, moving from a 30‑year to a 15‑year term to pay off the loan faster, or switching from an adjustable‑rate to a fixed‑rate loan for payment stability.

If your credit score has improved since you first got your mortgage, or if market rates have dropped, a rate‑and‑term refinance can save you money over the life of the loan. Because you are not increasing your loan balance, you avoid the higher LTV that can trigger private mortgage insurance (PMI) requirements if you cross the 80 % threshold.

When should I choose a cash-out refinance?

Select a cash‑out refinance when you need a lump sum of cash and have enough equity in your home to support a larger loan. Typical uses include funding a kitchen remodel, paying off high‑interest credit‑card debt, or covering education expenses. The cash you receive is not considered taxable income because it is a loan, not earnings.

Keep in mind that borrowing more raises your monthly payment unless you also secure a significantly lower interest rate. You should also consider how the higher LTV might affect your eligibility for the best rates and whether you will need to pay PMI if the LTV goes above 80 %.

How do loan amounts and equity change with each option?

Below is a simple comparison of the two refinance types.

Option	Best for	Key trade‑off
Rate‑and‑term refinance	Lowering rate or changing term without extra cash	No cash received; loan balance stays the same
Cash‑out refinance	Accessing home equity for cash needs	Higher loan balance and LTV, which may raise rate or PMI

With a rate‑and‑term refinance, your equity stays unchanged because the loan amount does not grow. With a cash‑out refinance, each dollar you take out reduces your equity by the same amount. For example, if you have $100,000 of equity and you cash out $30,000, your remaining equity drops to $70,000, and your LTV rises accordingly.

Common Problems and How to Fix Them

Problem: Confusing the two refinance types and picking the wrong one.

Fix: Write down your primary goal. If you only want a better rate or term, choose a rate‑and‑term refinance. If you need cash, evaluate a cash‑out refinance and compare the cost of that cash against other borrowing options.

Problem: Underestimating the impact on loan‑to‑value ratio.

Fix: Calculate your new LTV before applying. Divide the proposed loan amount by your home’s current appraised value. If the result is above 80 %, expect higher rates or the need for PMI, and decide whether the benefit outweighs the cost.

Problem: Overlooking closing costs.

Fix: Request a Loan Estimate from your lender that lists all fees. Remember that closing costs on a cash‑out refinance can be higher because the loan amount is larger, and weigh those costs against the cash you receive.

Key Takeaways

• A rate‑and‑term refinance changes rate or term only; loan amount stays the same.
• A cash‑out refinance gives you cash by increasing the loan balance.
• Both options require a new mortgage application and closing process.
• Higher LTV from cash‑out can lead to higher rates or PMI.
• Choose based on whether you need cash or just want better loan terms.

Frequently Asked Questions

What is loan-to-value ratio (LTV) and why does it matter?

LTV is the percentage of your home’s appraised value that is financed by your mortgage. Lenders use it to gauge risk; a higher LTV often means higher interest rates or the requirement for private mortgage insurance (PMI) if it exceeds 80 %. Knowing your LTV helps you understand how much equity you have and what loan terms you might qualify for.

Can I refinance if I have less than 20 % equity?

Yes, you can refinance with less than 20 % equity, but you may face higher rates or be required to pay PMI. A rate‑and‑term refinance is more likely to be approved in this situation because it does not increase the loan balance. Lenders will still evaluate your credit, income, and the property’s value before approving the new loan.

How does a cash‑out refinance affect my monthly payment?

Your monthly payment will change based on the new loan amount, interest rate, and term. Even if you secure a lower rate, the larger balance from a cash‑out refinance can increase the payment compared to your original loan. Using a mortgage calculator with the proposed numbers helps you see the net effect before you commit.

Is the cash I receive from a cash‑out refinance taxable?

No, the cash you receive from a cash‑out refinance is not considered taxable income because it is a loan secured by your home, not earnings or profit. You still owe interest on that amount, and the loan must be repaid according to the new mortgage terms. Consult a tax professional for advice on any related deductions.

How long does the refinance process take?

Typically, a refinance takes 30 to 45 days from application to closing, though timing can vary with lender workload and document readiness. Providing all requested information promptly, such as pay stubs, tax returns, and homeowners insurance details, helps keep the process on schedule. Some lenders offer expedited options for an additional fee.

Should I pay points to lower my rate on a refinance?

Paying discount points can lower your interest rate, but you need to stay in the loan long enough for the savings to exceed the upfront cost. Calculate the break‑even point by dividing the cost of the points by the monthly savings. If you plan to move or refinance again before that point, paying points may not be worthwhile.

Talk to Edi

If you’re ready to explore which refinance option fits your situation, reach out to Edi Shek. Edi is licensed in 14 states and can help you compare rates and terms without obligation.