Is a 3.75% Cash-Out Refinance on a Mortgage Better than Federal Student Loans?

Mark Kantrowitz

July 16, 2012

Is a 3.75% Cash-Out Refinance on a Mortgage Better than Federal Student Loans?

I have daughter who will be attending college in the fall of 2013 (and a son in 2017). For various reasons, our savings are not sufficient to pay for college given the current costs that I see. As home mortgage refinance rates have dropped to their lowest levels in my lifetime (around 3.75%), I had the notion of conducting a refinance on our home mortgage and pulling some money out to help pay for college costs. However, the more I read the more mixed signals I get on just how wise this may be. I am 48 and still need to save more for retirement, and currently have a mortgage loan of around $250K, happily not underwater since we bought back in the late 1990s. But with rates so low, it seems a wise thing to consider pulling an additional $100K+ with the mortgage refi to help with tuition – much better than paying the steeper college loan rates. Do you think this is advisable? Will this hurt our chances for any needs-based financial aid? — John M.

It may make sense to refinance a mortgage if the new interest rate is at least one percentage point below your current interest rate. But the decision whether to borrow extra money to pay for college through a cash-out refinance isn’t as straightforward.

Mortgage interest rates are certainly at historic lows. According to, the average 30-year fixed rate mortgage is about 3.75%.

But a 30-year mortgage has much too long a repayment term. For a 48-year-old parent, that would mean stretching out repayment until age 78. Parents should never borrow more for their children’s education than they can afford to repay in 10 years or by retirement, whichever comes first.

All debts, including education loans, credit cards, auto loans and mortgages, should be paid in full by the time the borrower retires. After retirement, there is no new income with which to make monthly loan payments, other than Social Security retirement benefits. There’s also the need to continue saving for retirement, especially during the last decade before retirement.

Assume, for the sake of argument, that one can obtain a 10-year mortgage with a 3.75% fixed interest rate. Borrowing an additional $100,000 on top of a $250,000 mortgage increases the loan payments by about $1,000 a month or $12,000 a year. Repayment on a mortgage begins immediately, so by the time the second child graduates, the parent borrower will have made 9 years of payments, or a total of $108,000. So purely from a cash flow perspective, it is more efficient to use the money to pay for college directly instead of using it to make the payments on a larger mortgage. If a student’s parents don’t have the money to make the higher mortgage payments, they shouldn’t be borrowing to pay for college, and instead should send their children to lower cost colleges.

Parents who cannot afford to pay the college bills all at once may wish to consider using a tuition installment plan. A tuition installment plan allows the family to spread out the college bills into 9 or 10 equal monthly installments for an up front fee that is typically less than $100.

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