Do you need a down payment to refinance a mortgage?

November 17, 2021 - 6 min read

Does it cost money upfront to refinance?

There’s no down payment needed to refinance. However, that doesn’t mean refinancing your mortgage is free. There are still closing costs to pay — which usually add up to about 2-5% of your loan amount.

The good news? You don’t always have to pay those fees out of pocket.

With a little know-how, you could roll your closing costs into your loan — or have the lender cover them — and pay nothing upfront on your mortgage refi.

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There’s no down payment to refinance. But you do need equity

When you buy a house, there’s almost always a down payment requirement — usually between 3% and 20%. The down payment is required because it puts equity into the home, which protects the lender in case your loan defaults.

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When you refinance, you don’t need to make a down payment because you (usually) already have equity in the property. Remember that you build home equity over time as you pay down your mortgage and the home increases in value.

So, as long as you meet minimum equity requirements, you don’t need to bring a down payment to the table when you refinance.

But you do need to pay closing costs again — just like when you bought the home. So you should plan for those upfront fees when deciding whether to refinance.

How much equity is needed to refinance?

Home equity is the difference between your mortgage balance and your home’s value. For example, if your home is worth $100,000 and your mortgage balance is $80,000, you have 20% equity.

Some people believe refinancing requires 20% equity, but this isn’t always true.

In fact, most major refinance programs require far less.

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Conventional refinance: 3-5%

You can typically qualify for a conventional rate-and-term refinance with as little as 3% to 5% home equity. This type of refinance only modifies the interest rate and the length of the loan.

On the other hand, conventional loans do require at least 20% equity for a cash-out refinance. This involves getting a new loan that exceeds what you currently owe, and then cashing out the difference.

FHA refinance: 3.5%

Similarly, an FHA refinance requires 20% equity for a cash-out, but only 3.5% equity for a rate-and-term refinance.

If you have little to no equity, you might qualify for an FHA Streamline Refinance. This type of refinance doesn’t require an appraisal. To qualify, though, you must have a current FHA loan in good standing. Additionally, the new loan can’t exceed the original mortgage amount (that means there’s no cash-back allowed).

VA refinance: 0%

With a VA cash-out refinance, you’re generally able to take out a new loan for up to 100% of the home’s value. That means you could theoretically refinance with no equity in the home at all.

Actual limits vary from lender to lender, though. Some lenders only allow applicants to borrow up to 90% of their home equity, leaving 10% untouched.

VA loans also have a Streamline Refinance program (called the ‘Interest Rate Reduction Refinance Loan’) that allows refinancing with no equity and no appraisal.

USDA refinance: 0%

USDA home loans don’t allow cash-out refinances. However, you can refinance a USDA loan with little to no equity, providing you meet the program’s credit requirements and you’re up-to-date on loan payments.

Are you refinance eligible?

When applying for a mortgage refinance, your lender will calculate your loan-to-value ratio (LTV) to determine whether you’re eligible for a new loan.

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LTV is expressed as a percentage, and it compares the amount of your home loan to the value of the property.

You can also think about LTV as the inverse of your equity.

If a loan requires at least 5% equity to refinance, it has a maximum LTV of 95% (because your loan amount can’t be more than 95% of the home’s value).

To calculate you LTV, divide your current loan amount by the appraised value of your home.

For instance:

  • Mortgage loan amount: $320,000
  • Current home value: $400,000
  • Home equtiy: $80,000 (20%)
  • Loan-to-value ratio (LTV): 80%

Having a low LTV can help you qualify for a refinance more easily. However, that’s not the only benefit.

Mortgage lenders also use LTV to help determine your interest rate and APR. Typically the more equity you have — and the lower your LTV — the better your interest rate will be.

Similar to how a 20% down payment helps you avoid mortgage insurance when buying a home, refinancing with 20% equity also helps you avoid private mortgage insurance (PMI) with a conventional loan.

And you can remove FHA mortgage insurance when you refinance with at least 20% equity.

Don’t forget about refinance closing costs

Remember, refinancing replaces an existing mortgage with a new one. And the new home loan will have its own set of costs — which you’re responsible for, too.

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These are lender and third-party fees that range from 2% to 5% of the loan balance. A sample of closing costs when refinancing include:

  • Loan origination fees
  • Appraisal fees
  • Title search fees
  • Attorney fees
  • Recording fees
  • Other mortgage-related expenses

Make sure you factor in closing costs before refinancing a mortgage loan. Ideally, you should keep the home long enough to break even or recoup what you pay at closing.

So if refinancing reduces your mortgage payment by $250 per month — and you paid $5,000 in closing costs — you should own the property for at least an additional 20 months to break even with your upfront cost and start seeing ‘real’ savings.

What is cash-in refinancing?

There’s just one situation where you need a down payment to refinance. And that’s if you’re doing a ‘cash-in’ refinance, where you pay down part of your loan balance at closing.

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Since mortgage interest rates can fluctuate from year to year, you might consider refinancing to take advantage of lower rates. This could reduce your monthly payment while decreasing how much you pay over the life of the loan.

But what if you don’t have enough equity to refinance?

In this case, you might consider a cash-in refinance. Instead of borrowing more than your current mortgage amount and cashing out the difference, you’ll bring cash to the closing table.

When does a cash-in refinance make sense?

This practice isn’t as common as a cash-out refinance, but it’s an option if you need to lower your LTV to qualify for a refinance.

For example, you might need 5% equity to refinance your mortgage into a conventional loan, yet you only have 3% equity.

Sure, you can postpone refinancing until you have enough equity. But in that case, you might miss out on a lower mortgage rate.

Alternatively, you can make a down payment when you refinance to meet the loan program’s equity requirement.

Another benefit of a cash-in refinance is that it can shorten the length of your mortgage term, helping you pay off the balance sooner. And if you have a conventional or FHA loan, a cash-in refinance might help you hit the 20% equity threshold to remove mortgage insurance.

But although a cash-in refinance can help you save with regard to your rate and monthly payment, it’s an added out-of-pocket expense.

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How can I avoid paying money upfront when I refinance?

The good news is that lack of funds doesn’t mean you’re unable to refinance your mortgage. You can work with your lender to avoid paying the closing costs out-of-pocket.

Options might include rolling the closing costs into the new loan, or negotiating a lender credit to cover these fees. But there’s a downside to both options.

You can only roll closing costs into the loan if you have sufficient equity. And if you negotiate a lender credit, you’ll likely pay a higher interest rate in exchange.

So make sure you discuss all your options with a mortgage lender. They can help you find the right balance between upfront fees and long-term savings.

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Valencia Higuera
Authored By: Valencia Higuera
The Mortgage Reports contributor
Valencia Higuera is a freelance writer from Chesapeake, Virginia. As a personal finance and health junkie, she enjoys all things related to budgeting, saving money, fitness, and healthy living.