Share and Follow
For homeowners burdened with student loans, mortgage lenders might offer a solution by allowing you to tap into your home’s equity to pay off those educational debts. Known as a “student loan cash-out refinance,” this type of loan can potentially remove the student loan debt from your financial landscape.
However, this seemingly convenient option comes with significant risks. By converting your student loan debt into mortgage debt, you place your home in jeopardy should the increased financial burden become unmanageable.
An alternative strategy could be to refinance your student loans independently. While this won’t eliminate the debt outright, it may provide an opportunity to pay it off more swiftly through potentially lower interest rates or better terms.
What is a student loan cash-out refinance?
The student loan cash-out refinance operates as a mortgage that leverages your home equity to clear student loan debts. To be eligible, the funds obtained through this refinance must specifically target the student loan payoff.
- Repay at least one student loan in full.
- Pay off a loan in your name — you can’t put the money toward a child’s loan, for example.
- Be sent to your student loan servicer at closing.
Consider this scenario: Your home is valued at $300,000, with an outstanding mortgage balance of $200,000, and you owe $40,000 on student loans. Through a student loan cash-out refinance, you could secure a new mortgage for $240,000. The lender would then allocate the extra $40,000 directly to your student loan servicer.
Drawbacks of a student loan cash-out refinance
Your student debt won’t really go away
Sure, the cash-out refinance will pay off your loans. But you’ll still owe that money as part of a bigger mortgage. That loan hopefully comes with a smaller payment than your previously separate debts. But your new mortgage may cost you more overall if it doesn’t offer a lower interest rate, shorter repayment term or both.
You give up student loan benefits and protections
Federal loans have options like income-driven repayment plans if you fall behind on payments. If the loans do default, the consequences can be serious, like having your wages garnished. But those penalties aren’t as severe as foreclosure, which would be possible if you can’t pay a cash-out refinance loan.
You can lower your rate in other ways
If your goal is to save money on your student loan payments, consider refinancing those loans by themselves. The best APRs for mortgage refinancing and student loan refinancing are comparable, and refinancing just your student loans wouldn’t put your home at risk.
Who should consider this option?
You typically shouldn’t add unsecured debt, like student loans, to loans tied to collateral, like mortgages. The biggest reason to do so would be if the savings outweigh the risks.
That may be the case only if you have a small student loan balance or high-interest federal PLUS or private loans. But if you’re intent on paying off your loans, additional reasons to consider a student loan cash-out refinance could include:
- You’ll save compared with other lending options. A student loan cash-out refinance would likely offer better interest rates than a personal loan or home equity line of credit. It also has lower fees and simpler eligibility terms than a typical cash-out refinance.
- Your debt disqualifies you from other options. Your monthly mortgage and student loan bills could make your debt-to-income ratio too high to be approved for other types of loans. By combining them into a single, lower bill, you may qualify for a better interest rate right now, as well as on additional loans in the future.
- You don’t trust yourself to use the loan money to pay the debt. Because student loan cash-out refinance funds go straight to your servicer, you won’t be tempted to spend that money elsewhere. Plus, if you’re done borrowing student loans, you likely won’t increase your overall debt. That might not be the case if you used a cash-out refinance to pay off high-interest credit cards, for example, only to accumulate more credit card debt.
» MORE: Can’t pay parent PLUS loans? Try these solutions
Which lenders offer student loan cash-out refinance?
Student loan cash-out refinancing is available on Fannie Mae-backed loans. But few lenders advertise this option.
The most notable is SoFi, which began offering this program in 2016, and lets you receive up to 80% of your home’s equity. SoFi mortgages are not available in every state, and you’ll need to meet the lender’s eligibility criteria to qualify.