FHA Cash-Out vs Home Equity Loan for a Spouse Buyout in Divorce

The Quick Read: It depends on one question: does your ex have to come off the mortgage? An FHA cash-out refinance replaces the old loan with a new one, pays your spouse their share, and ends their liability on the old note. A home equity loan pays your spouse too, but it sits behind the first mortgage and leaves that first note exactly as it was. If both names are on it, both names stay on it.

Who Each Option Is Really For

An FHA cash-out refinance fits the spouse who is keeping the house, qualifies alone, and needs the ex released from the existing loan. It is one new first mortgage. The buyout is paid from the proceeds at closing, and the old note is paid off.

A home equity loan fits a narrower case. The keeping spouse already has a first mortgage worth holding onto, the ex is off that note (or the lender has agreed to it), and there is enough equity left after the first lien to fund the payout. It is a second loan from a separate lender. FHA does not offer one and does not insure it.

A decree divides the property between two people. It does not bind the lender. Release comes from a payoff, a refinance, or an approved assumption.

Side-by-Side

The figures for the FHA column come from the programs Lendmire places loans with, subject to lender guidelines and full file review. The right column varies by lender, so treat it as a pattern, not a program.

How the FHA Cash-Out Works in a Buyout

HUD Mortgagee Letter 2019-11 cut the FHA cash-out maximum from 85% to 80% of value, and the Handbook 4000.1 transmittal confirms the update. That cap is a combined limit. A second lien stacked on top does not get around it.

Across the wholesale programs Lendmire places files with, the cash-out requires the home to have been owned and occupied for 12 months before the FHA case number is assigned. It is for a principal residence only. Second homes and rentals do not qualify.

The buyout itself is an allowed use of the proceeds. The lender will want the divorce decree, settlement agreement, or another enforceable equity agreement showing what the departing spouse is owed. Handbook wording on how FHA classifies a buyout can be technical, so the loan officer reads the current handbook against your file. If you take any cash for yourself beyond the payout, that is clearly a cash-out transaction.

The file runs like this:

1. The keeping spouse applies, alone or with a co-borrower, and a case number is assigned.

2. A full appraisal sets the value the 80% cap applies to.

3. The lender documents the buyout from the decree or equity agreement.

4. Underwriting reviews income, credit, and debt ratios for the keeping spouse alone.

5. At closing, the old mortgage is paid off, the departing spouse is paid, and title moves by deed or quitclaim.

The base debt ratios are 31% for housing costs and 43% for total debt, applied when the file has no compensating factors. At the top tier, documented compensating factors can raise those limits to 40% for housing and 50% for total debt, and the automated finding governs most files. Support payments you make count as recurring debt. Support you receive can count as income when the decree and a payment history document it and it is likely to continue.

On cost, FHA charges an upfront premium of 1.75% of the base loan, which is typically financed, plus an annual premium between 0.15% and 0.75% of the balance depending on term, loan amount, and LTV. On a thirty-year loan above 90% LTV, the annual premium lasts for the term. At or below 90%, it ends after eleven years. Because cash-out sits at 80% at most, the eleven-year schedule is the one that usually applies, subject to the loan’s actual terms.

How a Home Equity Loan Works in a Buyout

The CFPB describes a home equity loan as a lump sum, and says that when you already have a mortgage, the new loan is a second mortgage paid on top of the first. Two payments, two liens.

The second-lien lender runs its own credit, income, and valuation review. It may use a full appraisal or another method, and that varies. Lenders usually want a cushion of equity to remain after both loans, so a home with modest equity may not leave enough room to fund a large payout.

FHA insures the first loan only. A borrower with an FHA first mortgage can take a second lien from another lender, but that lender has to agree to sit behind the FHA loan. Later, if you refinance the first mortgage, the second-lien holder must agree to stay behind the new one. That is their choice, not yours.

Then the part that matters most in divorce. The existing first mortgage does not change. If both spouses signed it, both remain liable, no matter what the decree says. The CFPB’s issue spotlight on divorce documents servicers that say the only way to remove a party is to refinance, along with complaints about delayed assumption requests.

When the FHA Cash-Out Is the Better Fit

Pick the cash-out refinance when any of these is true:

• Your ex needs to be off the mortgage note, and a clean release matters to both of you.
• The current first mortgage has terms you do not mind replacing.
• Your credit is in the 580-and-up range and you qualify alone on your income, with support payments counted in the debt picture.
• The buyout plus the existing balance fits under 80% of appraised value.
• You want one payment, not two.

It is also the stronger route when the settlement says you must refinance. One loan, one closing, one payoff. The ex’s name leaves the debt because the debt itself is gone.

The trade-off is plain. A new loan means new closing costs, the FHA premiums, and a reset to current terms. If the home was bought less than 12 months ago, or you have not lived in it that long, this program is not available.

When the Home Equity Loan Is the Better Fit

A home equity loan makes sense in a narrower set of files:

• The ex is already off the first mortgage, or the servicer has agreed to a removal or assumption.
• The first mortgage terms are worth keeping, and you want to leave them untouched.
• Equity is large enough that a second lien still leaves a cushion after the payout.
• The amount needed is fixed and known, which suits a lump sum.

It can also work when the existing loan is not FHA and the keeping spouse qualifies well with a second lender. Keep in mind that you are now carrying two debts, and that the CFPB’s HELOC brochure makes the point that if you cannot repay a loan secured by your home on schedule, you could lose it. Lenders are required to hand that brochure to HELOC applicants, as the CFPB’s required-disclosures page explains.

Skip it if the ex is still on the first note and the plan is for them to stay protected. A second lien does nothing for that.

Where These Files Go Wrong

Appraisal gaps come first. A settlement that says “half of the equity” is written against a number. If the appraisal lands lower, the equity shrinks, and the payout may need to be renegotiated before closing.

Ratios come second. The keeping spouse qualifies alone, and support paid raises the debt side. Income from support received needs documentation, usually the decree plus a record of actual payments.

Third is the assumption that a quitclaim deed fixes liability. It changes who owns the home. It does not change who owes the lender.

Fourth is stale paperwork. An old decree, an unsigned equity agreement, or a missing date stalls a file because the lender has to document the payout it is funding. Bring the signed settlement early.

Fifth is the cash-out leverage cap. If the buyout plus the current balance runs past 80% of value, the FHA cash-out will not cover the full payout. Options then include a smaller payout structure, using other assets to offset, or a different loan type. Occupancy matters here too. A rental or second home is not eligible, and occupancy decides the leverage.

A quick note on streamlines. An FHA Streamline refinances an existing FHA loan with no appraisal and a limited credit review, but it provides essentially no cash back. It cannot fund a buyout. Some HUD language does allow removing a borrower from title and the new mortgage after divorce, as shown in Mortgagee Letter 2025-09, but only when no cash comes out and the remaining borrower meets the conditions. Your loan officer checks those against the current handbook.

Key Terms Defined

Spouse buyout: One spouse pays the other for their share of the home’s equity so one person keeps the property.

Cash-out refinance: A new first mortgage larger than the old balance, with the difference paid out at closing.

Home equity loan: A fixed lump-sum loan secured by your home, which sits as a second lien when a first mortgage exists.

Combined loan-to-value (CLTV): All loans against the home added together, divided by its appraised value.

Release of liability: The lender’s formal removal of a person from the loan note. A decree alone does not do this.

Assumption: A new borrower takes over an existing loan, with the lender’s approval.

A Balanced Verdict

Neither option is better in general. The FHA cash-out refinance is the stronger fit when the ex must leave the loan and you can qualify alone at 80% or less of value. The home equity loan is the stronger fit when the first mortgage is already clean and you only need a second source of funds.

Your divorce attorney should review the settlement language alongside the loan documents.

If you are weighing a cash-out refinance against keeping the loan you have, Lendmire can help you compare the programs and the equity each one reaches. For related reading, see Lendmire’s piece Cash-Out Refinance vs. Home Equity Loan to Remove an Ex-Spouse After Divorce.

For your own numbers, request a scenario review with Lendmire.

About Lendmire

Lendmire (NMLS# 2371349) is a mortgage broker licensed for consumer lending in 16 states. Lendmire arranges FHA, VA, conventional and jumbo purchase and refinance loans through wholesale lenders; every file is underwritten by the lender under the applicable program guidelines. Scotsman Guide named Lendmire a Top Mortgage Workplace in both 2025 and 2026.

References

1. HUD Mortgagee Letter 2019-11

2. HUD Handbook 4000.1 transmittal

3. CFPB: home equity loan vs. HELOC

4. CFPB: homeowners and mortgage companies after divorce

5. CFPB HELOC brochure

6. CFPB required disclosures

7. HUD Mortgagee Letter 2025-09

8. Maryland HB 1018 advisory