Are you thinking about refinancing your mortgage but don’t know where to start?
Maybe you’re just overwhelmed with information, or you feel like you’re missing out because it seems like everyone is refinancing their mortgages this year.
Don’t worry, refinancing doesn’t have to be a scary process.
With a ton of mortgage resources at your fingertips, and knowing what to look for, refinancing is easy.
What you just need to know is if a refinance is right for YOU.
Let’s take apart the simple factors involving home refinance and show you what to look for before you sign on the dotted line.
Most people refinance their home loans for the following reasons:
Lower monthly payments
Refinancing to a lower interest rate or longer loan term will result in lower monthly payments.
And if you are paying private mortgage insurance, a refinance helps you get rid of it to reduce payments if your home has gained 20% in value since you purchased it.
Lower interest rates
Mortgage interest rates fell drastically in 2012, and 2013 rates have stayed low since. Homeowners who have high mortgage rates refinance to reduce their rates.
To shorten the term of the current mortgage
Some people refinance to shorten the life of their existing loan, usually moving from a 30-year to a 15-year. This increases the amount owed each month, but it reduces the number of years needed to pay down the loan.
Convert from an adjustable-rate mortgage (ARM) to a fixed-rate mortgage
Homeowners take loans with an adjustable rate so they can benefit from initial lower costs. However, for some owners, an adjustable rate is no longer a good option for their particular financial situation, so they refinance to move from an adjustable-rate to a fixed-rate mortgage.
Cash in on home equity
Also known as a home equity loan. If a home has increased in value since it was purchased, homeowners like to cash in on the equity in their homes through a refinance.
If and when you choose to refinance, it should be based solely on your personal financial situation. And only if it saves you money.
When Should You Refinance Your Home Loan?
Short answer: When it can SAVE you money.
Depending on your state, you can expect to pay somewhere between 1 to 5% of your new loan amount in closing costs.
Because of this, it won’t make sense for you to refinance your mortgage unless you are planning to continue paying it down long enough for you to recoup the closing costs.
For example, let’s say a refinance will save you $100 a month in payments for the length of the new loan. If your closing cost is $5000, it will take you 50 months to recoup that money. In this example, the refinance would save you money if you plan to live in the house and pay the mortgage for at least the next 4.2 years.
If you’re not planning to stay in that house long enough to recoup the refinancing fees, then you won't save money.
It also won’t make sense to refinance your mortgage if your new interest rate isn’t at least a full point lower than your current interest rate. The closing fees will be more than what you’d save in interest.
For example, if your interest rate is at 3.7% and you only qualify for a loan at 3.5%. The 0.2% savings will not be worth it.
4 Things to Know Before Refinancing Your Home
If you can save money with a refinance, there are a few things to know before you go shopping for a new loan.
#1 – Know your credit score
An excellent credit score gets you the best interest rate and the lowest monthly payment.
For example, an excellent credit score for a $250,000 loan may fetch you a monthly payment of $898, whereas a poor credit score for the same loan can lock you into a monthly payment of $1047 a month.
Check out this mortgage rate calculator to get an idea of how much you could save with an excellent credit score.
If you have a poor score, find out what you’re doing that’s bringing down your credit score and work on getting it up as high as you can before refinancing your home loan.
#2 – Know the type of mortgage you'd like
If you already have an adjustable-rate mortgage, you can get a new loan with a fixed rate and vice versa. Know the details of each type.
A fixed-rate mortgage carries the least risk because the interest rate stays the same throughout the life of the loan.
An ARM will fluctuate from year to year depending on the type you choose. Some ARM loans guarantee the same interest rate for 5 or 7 years, then increase or decrease every year after that based on certain indexes.
Some homeowners choose an ARM because the initial monthly payments are lower than a fixed-rate loan. However, there’s no telling what the indexes will do next year, and your interest rate may go up along with your monthly payments.
If you’re going to move into an adjustable-rate mortgage, make sure you do your homework and fully understand what your future monthly payments could look like.
Most people stick with the fixed-rate mortgage because it’s less complicated than an ARM.
#3 – Ballpark your closing costs
There’s no getting around closing costs. If a lender tells you there are no closing costs, it just means they’ll roll it into your new loan (that means you’ll pay the closing cost plus interest). Always ask how much you’ll pay in fees and it’s best to pay it up front.
Your closing cost will depend on many factors and could cost around $5000-$6000 (or more depending on the loan).
#4 – Double check your term (length of the loan)
Once you sign for your new loan, the length of the loan is reset, even if you’ve been paying on your old loan for 5 years.
While most people refinance to move from a 30-year to a 15-year loan, there’s nothing that says you have to do that. You can sign up for another 30-year loan if it’s the better choice for your situation and saves you money (especially if you’re going to live in the house for many more years).
Also be sure to check if your new loan has an early repayment fee. You don’t want to have that restriction on your new loan if you plan on paying it off early.
Find a Lender for Refinancing
Now that you know that money will be saved with a refinance, you need to gather your financial information before shopping for a loan.
Here’s what you'll need handy (very similar to the documentation needed when buying a home as well!):
- Current pay stubs
- Tax Returns (possibly for the last 3 years)
- Credit Report (free at annualcreditreport.com)
- Financial statement showing current debts and assets
Have the most up to date information ready when you start shopping.
Here are 3 popular online lenders that specialize in mortgages and refinance:
Lending Tree’s extensive loan marketplace is where national, regional, local and alternative lenders compete for your business. They offer all kinds of loans, especially mortgage and refinancing.
Rocket Mortgage by Quicken Loans
Rocket Mortgage is Quicken Loan’s niche site that concentrates on home loans and refinances. It gives you solutions based on your unique financial picture and integrates with your bank, so most of the information you need to get a new loan is automatically transferred into your Rocket Mortgage account.
SoFi is an alternative bank offering mortgages, student loan refinancing, personal loans, and life insurance. They only operate in certain states within the US.
As an alternative lender, they have lower refinancing fees and a different underwriting techniques (as opposed to traditional banks). At Sofi, they not only look at your finances, but they also take into consideration your career experience, financial history, education, and monthly income/expenses ratios before making a decision on your refinance loan.
Are You Ready to Refinance Your Home Loan?
Now that wasn’t so bad, was it?
Refinancing your home mortgage isn’t scary at all now that you know what to look for.
If refinancing saves you money (and we’re all about saving money here), go for it. Just make sure you do your homework and fully understand your loan terms.