For the past several months, my husband and I have been paying down our debt so as to qualify for a refinance on a rental property. What we didn't count on was needing a sizable cash reserve to qualify for the loan.
Until several years ago, lenders did not require large cash reserves for a refinance. That has now changed thanks to tighter banking regulations which are designed to ensure that borrowers have enough liquid assets to make payments in case of an emergency. How much of a cash reserve is needed depends on what is being refinanced.
What we hoped to gain by refinancing
Our plan was pretty simple. The idea was to refinance an existing 7.50% loan on one of our rentals to 4% and shorten the term to 15 years for a faster payoff. In our favor, the house had been continuously occupied for the past 3 years, was "breaking even" from a liability standpoint, and was worth about $90,000 more than was owed.
What almost killed the refinance was the lack of a sizable cash reserve. Instead of just two months of reserves, the mortgage officer wanted to see six months worth of PITI house payments (principle, interest, taxes, and insurance) in our savings account for a total of $5000. And that wasn't all. He also wanted an additional $3000 in reserves to cover three months of PITI payments on our primary residence which wasn't even part of the refinance.
Solving the cash reserve problem
Because we didn't realize that a cash reserve would be necessary for a refinance, we had been throwing all our extra cash at lowering our debt. Big mistake! With less than $4000 in savings, the refinance would have died right there had it not been for our retirement accounts. The amount of money the two of us had in our 401(k) and IRA were more than enough to meet the cash reserve requirement our mortgage officer was asking for.
Banks are definitely tougher on homeowners than ever and I guess I can't blame them. But for rental property owners looking to refinance, a stellar credit report and low debt-to-income ratio is no longer enough. A minimum of a six month payment reserve seems to be the new standard regardless how profitable your rental may be.
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