Refinancing can help consolidate or pay off existing debts or lock in a lower fixed profit Image Credit: Shutterstock

Dubai: If you’re interested in borrowing against your home equity, you have options. One choice is a cash-out refinancing - that’s when you pay off the original loan on your home, take on a new one and get cash for some of the equity you have in the home.


How does a cash-out refinance work?

Refinancing a mortgage means replacing your existing loan with a new one that includes a new interest rate and term.

A cash-out refinance is a type of mortgage refinance that allows you to withdraw a lump sum of cash from the equity built up in your home. The portion of equity you take out is then added onto your new mortgage principal.

The interest rate you pay is applied to your new mortgage and may be fixed or adjustable depending on the type of loan you choose.

Remember to calculate risks associated with mortgage-backed securities Image Credit: Shutterstock

How much equity is needed for a cash-out refinance?

The amount you can withdraw depends on the amount of equity you have in your house. In most cases, you’ll need to maintain at least 20 per cent of the new loan’s value in equity after the refinancing. The appraised value of your home is a key factor in determining how much cash you can get.

How much can you borrow for a mortgage in the UAE?
Expats taking out a residential loan will need a deposit of at least 25 per cent if they are buying a property worth up to Dh5 million. More expensive homes will require a deposit of at least 35 per cent.

If you are looking to invest in a property and rent it out, you will need a buy-to-let mortgage, which will require a much higher down-payment of around 40-50 per cent.

Borrowing is capped in a variety of ways. The amount you will be borrowing (including the interest) cannot be more than your total anticipated earnings for the next seven years.

In Dubai, mortgage payments are capped at 50 per cent of your monthly income; a figure that is generous compared to the caps of 30 per cent or 35 per cent used in some European countries.

When applying for a mortgage, you might find that banks require you to have higher earnings than a local applicant, as some lenders consider expats to be a riskier proposition.

When applying for a mortgage, you might find that banks require you to have higher earnings than a local applicant, as some lenders consider expats to be a riskier proposition.

Is cash-out refinancing worth it?

There are many perks to a cash-out refinance. However, it’s important to balance the expenses of replacing your mortgage and paying closing costs with the benefits of how you intend to use the cash.

Before you leverage equity in your home, consider whether the plans you have in mind are worth the risk. For that let’s understand what to consider before you opt for a cash-out refinance.

There are a number of ways to settle the mortgage early, but one must understand the possible pitfalls before taking further steps Image Credit: Shutterstock

Key considerations for a cash-out refinance

If you have equity in your home, a cash-out refinance can make sense. However, there are also reasons to avoid it.

Reason to opt for a cash-out refinance: Availability of lump sum funds

With a cash-out refinance, you can use the money for home improvements

Can I use the money for anything else apart from home improvement?
As per current guidelines from the Central Bank of UAE, funds secured from an equity release can only be used for the refurbishment of the same property or utilised to purchase another property in the UAE. However, owing to their current financial status, most banks have constraints in providing equity release for current property owners.

The Central Bank had released guidelines on equity release transactions in Q4 2019 which restrict these funds from being used for general debt consolidation, such as settling your car loan, personal loan or credit card dues. Instead, you are encouraged to only use this cash to refurbish or improve your existing home or buy a new property.

Customers must know that the interest rates for an equity release are higher when compared to taking out a fresh mortgage or a buyout transaction.

Reason to opt for a cash-out refinance: Interest rates

Your new loan could have a lower interest rate, depending on when you took out your existing mortgage, current interest rates and your credit history.

With a cash-out refinance, your rate will also generally be lower than credit card interest rates or the rates on a personal loan.

Just like with any mortgage or refinance, you’ll pay closing costs for a cash-out refinance, which could include fees for appraisals and credit reports.

Reason to not opt for a cash-out refinance: Closing costs

Just like with any mortgage or refinance, you’ll pay closing costs for a cash-out refinance, which could include fees for appraisals and credit reports.

What are mortgage costs averaged at in the UAE?
When taking out a mortgage in the UAE, you will need to pay a fee of 0.25 per cent of the balance to register the loan. Your lender may also charge you a valuation fee and require you to pay for mortgage protection insurance.

Buildings insurance is mandatory when taking out a mortgage in the UAE. Whether you take out contents insurance is up to you. Insurance policies in the UAE can be very affordable, and you can either purchase buildings and contents separately or as a package.

How much you will pay depends on the value of your home and belongings. As a rule of thumb, your yearly premium can be around 0.1 per cent of the combined property value and contents.

Reason to not opt for a cash-out refinance: Repayment period

With a cash-out refinance, you’re replacing your existing loan with a new one for a higher amount, which could lengthen the time you’re paying it back, and the amount of interest you pay over time.

Reason to not opt for a cash-out refinance: Collateral

As with any home equity option, a cash-out refinance uses your home as collateral, so a failure to make your loan payments could put you at risk of foreclosure.

More banks in the UAE are offering deals on their existing mortgage loans, where they reduce the interest rate charged for a one-year period, passing on the recent cut in interest rates to the customers. The picture is used for illustrative purposes only. Image Credit: Supplied

Let’s compare different financing options you have when you borrow against your home

There are other ways to borrow against your home equity. Depending on your situation, a home equity loan or line of credit can be more helpful than a cash-out refinance. Here’s how the different options stack up.

Cash-out refinance

Replaces mortgage? Yes.

Interest rate: Available through either a fixed-rate mortgage or an adjustable-rate mortgage.

Closing cost: Similar to your original mortgage.

Pay-out: Lump sum when you close your refinance loan.

Home equity loan

(A home equity loan is a type of loan in which the borrower uses the equity of his or her home as collateral. The loan amount is determined by the value of the property, and the value of the property is determined by an appraiser from the lending institution.)

Replaces mortgage? No

Interest rate: Usually fixed but generally has a higher interest rate than a line-of-credit for the same amount.

Closing cost: Similar, on a percentage basis, to those you paid on your original mortgage.

Pay-out: Lump sum at your loan closing.

Refinancing can be a tool to shorten the loan period or reduce the monthly instalments Image Credit: Shutterstock

Home equity line of credit

(A home equity line of credit is a loan in which the lender agrees to lend a maximum amount within an agreed period, where the collateral is the borrower's equity in their house)

Replaces mortgage? No.

Interest rate: Typically has an interest rate that’s variable and changes in conjunction with an index.

Closing cost: Usually has no (or relatively small) closing costs.

Pay-out: You withdraw from your available line of credit as needed during your draw period, typically 10 years.

Planning to refinance your mortgage in the UAE?
The mortgage market in the UAE is very competitive, with banks striving to offer discounted fixed periods on their home loans. This is good news for homeowners looking to switch deals, as the best offers tend to be available to people with existing mortgages.

If you are looking to switch deal, approach your current bank first. Some lenders will consider restructuring your loan with a reduced rate for a fixed term. However, while some banks offer fee-free re-mortgaging, most will charge you to switch.

The days of 3 per cent buy-out fees are over, as the rules introduced in December 2015 set the maximum fee as 1 per cent of the balance (up to Dh10,000).