B2-1.3-02, Limited Cash-Out Refinance Transactions (12/11/2024)

Limited cash-out refinance transactions must meet the following requirements:

• The transaction is being used to obtain a new first mortgage secured by the same property to

  • pay off an existing first mortgage (including an existing HELOC in first-lien position);

  • pay off an existing construction loan and documented construction cost overruns that were incurred outside of the interim construction financing for two-closing construction-to-permanent loans. (These construction cost overruns must be paid directly to the builder at closing.);

  • pay for construction costs to build the home for single-closing construction-to-permanent loans, which may include paying off an existing lot lien; or

  • pay off an installment land contract that was executed more than 12 months before the date of the loan application.

• At least one borrower on the new loan must be an owner (on title) of the subject property at the time of the initial application. Exceptions are allowed if the lender documents that
  • the borrower acquired the property through an inheritance or was legally awarded the property (such as through a divorce, separation, or dissolution of a domestic partnership); or
  • the property was previously owned by an inter vivos revocable trust and the borrower is the primary beneficiary of the trust; 
  • the borrower is currently financially obligated on the loan being paid off but not on the title. This includes loans where the property is currently owned by a limited liability corporation (LLC) that is majority owned or controlled by the borrower(s). Ownership must be transferred into the name of the individual borrower(s). See B2-2-01, General Borrower Eligibility RequirementsB2-2-01, General Borrower Eligibility Requirements  for additional requirements; or
  • the borrower is paying off an installment land contract that was executed more than 12 months before the date of the loan application.

• Only subordinate liens used to purchase the property may be paid off and included in the new mortgage. Exceptions are allowed for paying off a Property Assessed Clean Energy (PACE) loan or other debt (secured or unsecured) that was used solely for energy-related improvements. See B5-3.3-01, HomeStyle Energy for Improvements on Existing PropertiesB5-3.3-01, HomeStyle Energy for Improvements on Existing Properties, for additional information.

• If the subject property was previously listed for sale, it must have been taken off the market on or before the disbursement date of the new loan.

If the LTV, CLTV, or HCLTV ratio exceeds 95% for a limited cash-out transaction, the following requirements also apply.

Note: The above requirements do not apply to HomeReady or high LTV refinance loans. For additional information, see B5-6-01, HomeReady Mortgage Loan and Borrower EligibilityB5-6-01, HomeReady Mortgage Loan and Borrower Eligibility or B5-7-01, High LTV Refinance Loan and Borrower EligibilityB5-7-01, High LTV Refinance Loan and Borrower Eligibility accordingly.

When the following conditions exist, the transaction is ineligible as a limited cash-out refinance and must be treated as a cash-out refinance:

• no outstanding first lien on the subject property (except for single-closing construction-to-permanent transactions, which are eligible as a limited cash-out out refinance even though there is not an outstanding lien on the subject property);

• the proceeds are used to pay off a subordinate lien that was not used to purchase the property (other than the exceptions for paying off PACE loans and other debt used for energy-related improvements, described above);

• the borrower finances the payment of real estate taxes that are more than 60 days delinquent for the subject property in the loan amount; and

• a short-term refinance mortgage loan that combines a first mortgage and a non-purchase-money subordinate mortgage into a new first mortgage or any refinance of that loan within six months.

See also  B2-1.3-04, Prohibited Refinancing PracticesB2-1.3-04, Prohibited Refinancing Practices.

The following are acceptable in conjunction with a limited cash-out refinance transaction:

• modifying the interest rate and/or term for existing mortgages;

• paying off the existing first mortgage (which may include additional amounts required to pay off the loan, such as prepayment penalties, a deferred balance resulting from completion of a prior loss mitigation solution, and late fees);

• paying for construction costs to build a home for a single-closing construction-to-permanent transaction, which may include paying off an existing lot lien;

• paying off the construction loan and documented construction cost overruns for a two-closing construction-to-permanent loan;

• paying off the installment land contract that was executed more than 12 months before the date of the loan application;

• financing the payment of closing costs, points, and prepaid items. With the exception of real estate taxes that are more than 60 days delinquent the borrower can include real estate taxes in the new loan amount provided

  • the real estate taxes must be paid in full through the transaction, and

  • payment for the taxes must be disbursed to the taxing authority through the closing transaction, with no funds used for the taxes disbursed to the borrower;

• receiving cash back in an amount that is not more than the lesser of 2% of the new refinance loan amount or $2,000;

• buying out a co-owner pursuant to an agreement;

• paying off a subordinate mortgage lien (including prepayment penalties) used to purchase the subject property. (When the subordinate loan is a Community Seconds, payoff may include any required payment of the share of appreciation due to the Community Seconds provider under the terms of the shared appreciation agreement.)The lender must document that the entire amount of the subordinate financing was used to acquire the property; or

• paying off the unpaid principal balance of PACE loans and other debt used for energy-related improvements, described above.

As noted above, the borrower may receive a small amount of cash back in a limited cash-out refinance transaction. The lender may also refund the borrower for the overpayment of fees and charges due to federal or state laws or regulations. Refunds such as these are not included in the maximum cash back limitation, provided that

• the settlement statement clearly identifies the refund, and

• the loan file includes documentation to support the amount and reason for the refund.

This applies to standard limited cash-out refinance transactions. For high LTV refinance transactions, see B5-7-01, High LTV Refinance Loan and Borrower EligibilityB5-7-01, High LTV Refinance Loan and Borrower Eligibility.

Note: These refunds may also be applied as a principal balance curtailment in accordance with B2-1.5-05, Principal CurtailmentsB2-1.5-05, Principal Curtailments.

To treat a transaction as a limited cash-out refinance transaction, the lender must document that all proceeds of the existing subordinate lien were used to fund part of the subject property purchase price or pay for permissible energy-related expenses. Written confirmation must be maintained in the mortgage file.

The following are acceptable forms of documentation:

• a copy of the settlement statement for the purchase of the property;

• a copy of the title policy from the purchase transaction that identifies the subordinate financing;

• other documentation from the purchase transaction that indicates that a subordinate lien was used to purchase the subject property; or

• for energy-related expenses, copies of invoices or receipts to evidence funds were used for energy improvements. A copy of an energy report is required in many cases. See B5-3.3-01, HomeStyle Energy for Improvements on Existing PropertiesB5-3.3-01, HomeStyle Energy for Improvements on Existing Properties, for additional information.

When a new limited cash-out refinance transaction will not satisfy existing subordinate liens, the existing liens must be clearly subordinate to the new refinance mortgage. The refinance mortgage must meet Fannie Mae’s eligibility criteria for mortgages that are subject to subordinate financing.

When a borrower obtains new subordinate financing with the refinancing of a first mortgage loan, Fannie Mae treats the transaction as a limited cash-out refinance provided the first mortgage loan meets the eligibility criteria for a limited cash-out refinance transaction.

Note: It is acceptable for borrowers to obtain cash from the proceeds of the new subordinate mortgage.

A transaction that requires one owner to buy out the interest of another owner (for example, as a result of a divorce settlement or dissolution of a domestic partnership) is considered a limited cash-out refinance if the secured property was jointly owned for at least 12 months preceding the disbursement date of the new mortgage loan.

All parties must sign a written agreement that states the terms of the property transfer and the proposed disposition of the proceeds from the refinance transaction. Except in the case of recent inheritance of the subject property, documentation must be provided to indicate that the security property was jointly owned by all parties for at least 12 months preceding the disbursement date of the new mortgage loan.

Borrowers who acquire sole ownership of the property may not receive any of the proceeds from the refinancing. The party buying out the other party’s interest must be able to qualify for the mortgage pursuant to Fannie Mae’s underwriting guidelines.

See Chapter B5-7: High Loan-to-Value Refinance Option, for modifications to the standard limited cash-out refinance requirements for high LTV loan transactions.