How and When to Refinance Your Mortgage
Hundreds of billions of dollars’ worth of mortgage loans are awarded every year. Chances are if you’re a homeowner you’ve taken out a mortgage, or loan used for real estate. When you took out the loan you selected the term length, chose between a fixed or adjustable rate, and might have even decided what you paid in closing costs. Term limits, or the number of years in your loan, are often fairly long though. This means that several years may have passed since you set the initial terms for yourself, and your financial situation may well have changed since then. Have no fear, though! You can take advantage of the option to refinance your mortgage to better meet the needs you have today.
What does it mean to refinance your mortgage?
Refinancing your mortgage means taking out a new loan to replace your existing loan. You don’t have to take out your new loan with your existing loan’s lender—you can use any financial institution you’d like. What’s more, refinances typically close more quickly than an initial mortgage loan and usually involve less paperwork.
The process is pretty straightforward. You begin with an existing loan that you’d like to retool or improve in some way. You find a lender with better loan terms, then apply for that loan. The new loan pays off the existing debt completely, and you make payments on the new loan until you either pay it off or refinance again.
Who should refinance their mortgage, and when?
You should consider refinancing if you want to get a lower mortgage rate than you currently have, or if you want to use your home equity for paying off other debt (like credit cards) or funding home improvement.
You’ve recently improved your credit score. If you’ve recently come out of a difficult financial situation that damaged your credit score, you might have a loan or two with a high interest rate. Regardless of the reason, if you had to get a car loan or some other loan while your credit score was low, your interest rate will reflect that. Luckily, once you’ve improved your credit score you can likely refinance those loans at a significantly lower rate.
You want to invest in home renovation. If you have a lot of equity in your home, you can reinvest that equity in your home to make some long-needed repairs or just to renovate the property with an additional room, a swimming pool, or whatever you desire. Assuming your credit is good, you can do what is called a cash-out refinance. When you refinance to borrow more than you owe on your current loan, the lender gives you a check for the difference. People often get a cash-out refinance and a lower interest rate at the same time.
You want to pay off the loan faster. When you refinance from a 30-year mortgage into a 15-year loan, you pay off the loan in half the time. As a result, you pay less interest over the life of the loan. One downside is that the monthly payments usually go up.
You’re ready to switch from an adjustable to a fixed-rate loan. Interest rates on adjustable-rate mortgages can go up over time. Fixed-rate loans stay the same. Refinancing from an adjustable-rate to a fixed-rate loan provides financial stability when you prefer steady payments.
Some items to consider:
There are a few factors to consider when deciding whether refinancing is right for your situation. Upfront costs might be too high to make it worthwhile, and sometimes the benefits of a current loan outweigh the savings associated with refinancing.
The transaction costs can be expensive. Especially with loans like home loans, closing costs can add up to thousands of dollars. You want to make sure you’ll come out ahead before you pay those costs. Other types of loans (including loans from online lenders) can include processing and origination fees.
You might end up paying higher interest costs. When you stretch out loan payments over an extended period, you pay more interest on your debt. You might enjoy lower monthly payments, but that benefit can be offset by the higher lifetime cost of borrowing. Run some numbers to see how much it really costs you to refinance—or better still, consult your financial institution.
You could lose benefits from your existing loan. For example, federal student loans are more flexible than private student loans if you fall on hard times. Plus, federal loans might be partially forgiven if your career involves public service. Likewise, keeping a fixed-rate loan might be ideal if interest rates skyrocket—even though you’d temporarily get a lower rate with a variable-rate loan.
You’re ready to refinance. Now what?
So, you’ve decided that now is the time to refinance your mortgage. You’re probably wondering: what’s the smartest way to go about this? Refinancing is like shopping for any loan or mortgage. First, take care of any issues with your credit so that your score is as high as possible. Then, it’s time to shop around to find the best rate and the best terms.
Decide whether lower monthly payments or overall interest is right for you. Reducing your payment is usually the goal. So, it’s tempting to refinance with another full 30-year term to really knock down that monthly payment. However, that means you’ll end up taking even longer to pay off your house and paying more interest over the long run. Instead, you can ask the lender to match your remaining loan term. For example, if you’ve had a 30-year loan for five years, you have 25 years remaining. You can tell the lender to set up the payments so you repay the refinanced loan over 25 years instead of 30. This way, you reduce the interest you pay over the life of the loan.
Get a few quotes before inquiring with your current lender. See what kind of rates you can get from competitors before inquiring about what your current lender is willing to do. If your current lender wants to keep your mortgage, you might be able to get even better terms. Consult a financial professional to run the numbers and see if refinancing makes sense for you.
If you live in the Knoxville or East Tennessee area and you’re considering a mortgage refinance, check out all of the mortgage refinancing options and other home lending products available from Y-12 Federal Credit Union. Click Here to view our mortgage lending and refinancing options!