Securing a mortgage is no easy feat, especially for first-time home buyers. The initial terms of the loan were geared toward your personal financial situation and the national interest rate at the moment of application. But what if those terms have changed? It might be beneficial to investigate a refinance of your loan.
It takes some mathematical sleuthing to see if the fees involved are less than the ultimate savings. But with the help of a refinancing calculator and professional guidance, it just might be worth the hassle.
What is refinancing?
Refinancing sounds like simply applying to change the terms of a loan in favor of you, but really the initial loan is paid in full and a new, second loan is acquired with better terms. Because it’s actually a new loan application, the refinancing process requires the borrower to collect all of the important financial documents needed for the first loan, plus an appraisal for the current value of the property.
You’ll need to round up the latest versions of:
- Financial assets such as retirement and savings accounts
- Verifiable employment and income histories
- Credit scores and reports
- A recent home appraisal
How do you prepare for refinancing?
Preparation is more than just gathering documents. Here’s where the math sleuthing begins. Finding an easy to use online refinance calculator will help keep the numbers in perspective. You’ll also need to be comfortable shopping for and understanding the new loan including interest rates and associated fees, although it’s common to get favorable refinancing from the lender who offered the initial mortgage because they’d rather maintain you as a customer.
Following are more money savings vs. costs scenarios.
Is there a clause in your loan that penalizes prepayment of the mortgage? The penalties vary, so verify how much it will cost you to pay early.
A refinanced loan, even at a lower rate and smaller payment, probably translates to a longer term. This means you’ll be paying interest a lot longer than the initial mortgage required. Keep in mind loans are designed to have the most interest added in the early payments. Later into the life of the loan, payments are pushed more into principal.
The new loan will be laden with fees: application, appraisal, title searches, legal, and origination, and insurance fees are all possibilities. Adding these up will help determine if the refinancing process is profitable.
Future tax returns should also be considered. If you claim your mortgage interest on a tax return, a refinanced rate equals less mortgage interest as a deduction.
After contacting possible lenders, they will provide a loan estimate with the terms, projected monthly payments, closing costs, and all other necessary fees. Having enough cash saved to pay these fees lowers the overall loan repayment. Comparing multiple offers side by side helps to choose the best option.
Why should borrowers refinance?
More often than not, borrowers hope to capture a lower mortgage rate, likely saving thousands of dollars in interest.
Different reasons to refinance include an Adjustable Rate Mortgage schedule that is about to increase, and you’d now prefer a fixed rate because the rates are historically low. It is also possible to refinance an existing ARM for a new one with better terms.
Cash-back refinancing is available by withdrawing equity (the difference between the amount of the loan owed and the value of the property.) This is logical if the equity is significant or the loan is paid in full. Homeowners use this money for many reasons, including down payments on another house, home improvements, and credit card debt.
Cash-in refinancing is different because it allows the borrower to achieve a lower interest rate, a shorter loan term, or the option to put more money down during the refinancing to avoid mortgage insurance.
It is also possible to consolidate two separate mortgages into one payment.
When is the best time to refinance?
As a starting point, most lenders require the original mortgages be held for at least 12 months, but there are some variations. If dropping interest rates catch your eye, begin to assess credit history and scores to find and correct any errors. The same is true for other financial accounts if there have been changes in income.
Ultimately, the goal is to lower mortgage payments while at the same time offset potential refinancing fees in the shortest amount of time possible. This is a tricky feat to accomplish without thorough preparation and likely the help of a professional mortgage lender. But, knowing the tipping point numbers will help you gauge when it is the best time for you to refinance.
Unfortunately, refinancing isn’t a one size fits all and completed in one day kind of deal. By collecting the necessary information well in advance and continuously monitoring the housing financial markets and even maintaining an open relationship with a lender, the benefits of a refinance deal could handsomely outweigh the annoyance of the process.
By Dawn M. Smith