So many questions have been raised over the years in the United States regarding refinancing.
Some people are asking, what does refinance mean? Some, what is the best way to refinance my mortgage? While others, what are the requirements to refinance my home? And some even want to know if refinancing is a good idea.
Whether you need an answer to any of these queries or more, you need to be careful while choosing to refinance your mortgage.
Further, understanding refinancing will help you decide if refinancing your mortgage is even for you.
What does it mean to refinance?
Mortgage refinancing means choosing a new loan to pay off your old mortgage loan. The major reason most homeowners in the U.S. refinance is to take advantage of the new lower interest rate and get a better affordable loan.
For instance, if you took a mortgage loan 20 years ago at an interest rate of 8%. You can refinance it today with the current interest rate which is below 4% which can save you lots of dollars a month.
Before you dive into refinancing your mortgage, let’s see the good and bad sides of refinancing.
Why is refinancing a good idea?
Lower interest rate
This is one of the major reasons homeowners refinance. When you notice a drop in interest, it’s an opportunity to grab. Experts say it’s better if you can reduce your interest rate by at least 2%.
Even if you can reduce it by 1% it is quite enough savings for you.
Also, reducing your interest rate helps you to increase the speed you build equity in your house.
Fixed Interest Rating
Unlike Adjustable-Rate Mortgages where the interest rate can increase anytime, especially some years after you have collected the mortgage loan.
When you refinance your mortgage you can now choose to apply a fixed Interest rate which will never change until you pay off the loan.
Why is refinancing a bad idea?
Refinancing costs money, which includes closing costs. The average closing cost to refinance your mortgage is between 2% to 5% according to The Mortgage Reports.
Thus, if you are planning to refinance a $300,000 loan you should be paying a closing cost between $6,000 to $15,000.
According to Bankrate “If a homeowner is planning to move within the next five years, they may not get as much benefit from a refinance. Often, the costs (of a refinance) could outweigh the benefits.”
So if you paid that high amount to refinance your mortgage and later move out soon then you didn’t recoup your money. You are at a loss.
If you had a brilliant credit score when you first took your mortgage, and your credit score later reduced before you demand refinancing. Your mortgage refinance rate might be higher than your initial mortgage rate.
The minimum credit score for conventional loans is 620 while for FHA loans is 580. So you need to maintain a minimum of these credit scores to get a good refinancing mortgage.
Do you get money back if you refinance your home?
Straightforward answer, Yes!
It is known as cash-out refinancing. Where you replace your existing mortgage loan with a new one with a lower interest. This helps you to be able to withdraw a lump portion of your home’s equity.
Equity is the money you will get when you pay off your mortgage. Or the difference between the mortgage and the worth of your home.
For instance, if your mortgage loan is $200,000 and your home is worth $300,000, your equity is $100,000.
With this money, the United State homeowner can choose to pay off other debts or even invest in higher investments.
What do you need to refinance your home?
For you to go on to refinance your home, you need to know if you are eligible for it in the first place (NEWS Flash: most homeowners are eligible).
So in this session, you’ll be seeing some necessary tools that should be in your toolbox.
Yes, a credit score is coming into the picture again, that’s because of its importance in refinancing. In fact, it’s very important in anything that has to do with loans in the United States.
To refinance your mortgage, you need a good credit score. Credit score ranges from 300 to 850 and an adequate credit score is from 620 and above for conventional loans. And, 580 and above for FHA loans.
Lenders need your credit score to determine your abilities to repay.
This credit score can determine if you’re eligible for refinancing and the mortgage rate they will give you.
Wait for the minimum amount of time before refinancing
This depends on the lender you want to approach and the kind of mortgage you need. You might need to wait for some months after you have stopped your initial mortgage to refinance your mortgage.
For a conventional lender (cash-out refinance option), you have to wait at least 6 months after you’ve closed your original mortgage.
But, for an FHA loan (cash-out option) you have to wait from 6 months to one year of the time you closed your initial mortgage.
Considerable Home Equity
The lender will also look into your home equity. How strong is it?
According to research, it is best to have a minimum of 20% home equity before refinancing. It is more necessary if you want to do a cash-out refinancing.
However, if your equity is below 20%, and you have a favorable credit score, you can still be offered refinancing. But, you might get a higher interest rate.
Further, there is no home equity consideration when you’re not going for a cash-out refinance option. If you just need interest rate reduction and have a good credit score, you can easily get your request.
Get your paperwork ready
There is some paperwork needed to refinance your mortgage.
You will need documents for;
- Proof of your income
- Credit information
- Debt statement
- Tax returns
- House Insurance statement.
Closing Cost Payment
You can either pay for the closing cost or roll it over to your new mortgage.
However, if you plan to roll it over, you will get a higher interest rate or the lender will move it to your loan’s principal.
10 facts about refinancing your mortgage
1. Know your financial status
You should choose to refinance based on your financial status. The mortgage rate should be your first priority
2. Know the value of your home
If your home equity doesn’t have enough value, you should think twice, especially if you need a cash-out option.
3. Cost of Refinancing
To refinance your mortgage in the U.S. it costs between $1,500 to $5,000, however some states have higher closing costs. The fee you pay varies by states in the U.S.
Some States pay moderately low while some others states can pay above $10,000.
According to research from Business Insider, Alabama, Arkansas, Iowa, Kansas pay closing costs below $3,000 while Maryland, New York, Delaware, pay more than $10,000. In fact, Washington, DC pays $25,800 in closing costs.
Further, a closing cost is not just one fee, it is a collection of so many fees which includes;
- Loan origination fee
- Appraisal fee
- Credit report fee
- Title insurance fee
- Mortgage points
- Recording fee.
4. Refinancing is not always the best solution
If you know you’ll move away from your home sooner, and won’t regain your closing cost, is it even worth the stress?
5. No Limit to Refinancing
Yes, you can refinance your mortgage as many times as you want. But bear in mind that your credit score might be affected if there are several credit inquiries. Also, you’ll always pay the closing cost.
6. You can refinance for FREE
Actually, it’s not totally free. Some lenders offer a no-closing-cost refinance option. Your closing cost might be rolled over to your principal loan.
But, this might result in a little increase in your monthly mortgage or interest rate.
7. Rate Change
Refinancing affects the interest rate and length of the mortgage. However, it all depends on your goals.
If your goal is to reduce the mortgage monthly payment, then you should consider taking a longer-term loan with a lower interest rate.
But, if your goal is to pay quickly, you should go for refinancing with shorter-term and affordable monthly payments.
8. You Can Get Cash From Refinancing
In case you need money for renovation or payment of your child’s college. Refinancing can fund that through the cash-out option.
Homeowners with equity lower than 20% will be required to pay Private Mortgage Insurance (PMI) when refinancing.
10. Break-Even Point
You should know your break-even point. This is when you recoup from the amount you paid in your refinancing closing cost.
For instance, if you paid $4,000 in closing cost and your savings in your new mortgage is $200 per month. Your break-even point is 20 months.
That is, if you plan to relocate before this 20 months, your refinancing is a loss.
The price will depend on the type of apartment but it will be between $1,500 to $5,000
When the mortgage rate is at least 2% lower than your current mortgage.
Its impact is little on your credit score.
A 30 year fixed refinance APR is currently 3.3% as of March 2022.
No, your home equity remains stable even when you refinance your home.
Yes, you can, but in some issues, you can wait up to 24 months.
I believe you have learned a lot in refinancing, but the question might be, should I go ahead with it?
Refinancing is a brilliant idea if you plan to stay more than your break-even point and have equity bigger than 20%. Regardless of your equity, if you just want to reduce your interest rate, and have a good credit score, you can also go for refinancing.