What Is A Mortgage Refinance
Mortgage refinance may seem like a complex topic, but its basically taking out a new mortgage to pay your existing one.
Its a loan with a new principal and a different interest rate. But since it takes the place of your original mortgage, youll only have one monthly payment.
When you apply to refinance your home, your lender will check your credit score. Theyll also review your income and tax history and assess your homes current market value.
Lenders put all this information together to see whether you qualify for a loan. If you do, theyll provide several options. These may include a lower monthly payment, a shorter term length or taking equity out of your home.
Refinance Savings for a $300,000 Mortgage
Theres No Guarantee Youll Be Approved For A Refinance
When it may not be right for you:
- You recently went through a job loss or major change in employment
- Your credit score has drastically reduced
- You recently took on significant debt
- Your savings accounts have seen better days
Qualifying for a refinance is similar to the approval process you went through when you first got your mortgage. Youll need to provide documentation and evidence of a stable employment history, good credit score, minimal debt, and a certain amount of assets. If youve experienced any financial hardships lately, such as a bankruptcy, a foreclosure, or have had difficulty paying bills on time, it may be best to recover before applying for a new home loan.
What Does It Mean To Refinance A Mortgage
Mortgage refinancing is a strategy that helps homeowners meet their goals. This could mean refinancing to a lower interest rate or refinancing to a different mortgage term. Refinancing a home is a major financial decision and one that shouldnt be made without doing all the research.
When you refinance, your new lender pays off your old mortgage and replaces it with a new mortgage. Most people refinance to reduce their monthly payment, but some refinance from a 30-year to a 15-year mortgage term if they want to knock out their mortgage debt more quickly.
Refinancing is not the same as a second mortgage. A second mortgage gives you money from your home equity. Refinancing gives you an entirely new mortgage, ideally with more favorable terms.
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Requires Good Credit To Get A Lower Rate
Each lender has its own requirements for refinancing, but to get the best rate that makes refinancing an intelligent strategy, youll need good credit. According to FICO, credit scores of 670 or higher are considered good, very good, or excellent. If you have fair or poor credit, you could end up with a higher interest rate.
You Might Spend Less Over The Life Of The Loan
When you shorten the length of time you take to pay off the loan, you shorten the length of time you pay interest on that loan, meaning youll pay less interest over the life of the loan. But what about if you dont shorten the length of the loan? You could still end up paying less over the life of the mortgage.
If your refinance rates are low, you may be able to lower your interest rate. Since you pay interest until you pay off the loan, this will save you on the amount of total interest you pay over the life of the loan.
Heres an example:
You get a 30-year mortgage for $200,000 at 4%. In 2 years, youll have already paid $15,728 in total interest. If you keep this original loan for 30 years, youll end up paying $143,739 in total interest over the life of the mortgage.
Lets say, after 2 years, you refinance the loan into a new, 30-year mortgage at an interest rate of 3.5%. Since you paid the loan for 2 years, your loan balance is now $192,812. If you kept the new loan for 30 years, you would pay $118,880 in total interest over the life of the new loan.
Now, add the 2 years you paid interest on the original loan, and youll pay a total of $134,608 in total interest. With just the original loan at a 4% interest rate, you still wouldve paid more. By refinancing to the lower interest rate, you save $9,131 in total interest paid over the life of the loan.
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Can Allow You To Get Rid Of A Heloc
With the permission of your lender, you could combine first and second loans on your home into one loan with the help of refinancing. This can streamline your payments and simplify your finances.
Consider refinancing your mortgage when current interest rates are at least 2 points below what youre paying now, which helps your savings vs. costs pencil out.
How We Calculate Our Mortgage Interest Rates
We use Bankrates daily mortgage rate data for our mortgage rate trends. These overnight rates are based on a specific personal profile, which only includes loans for single-family homes with a loan-to-value ratio of 80% or better. Bankrate is part of the same parent company as NextAdvisor.
The current average rates listed below and based on the Bankrate mortgage rate survey:Average mortgage interest rates
Pros And Cons Of A Cash
Like any financial move, doing a cash-out refinance has its pros and cons. Here’s what you need to know before getting started.
If you’ve been following the news lately, you know that mortgage rates are at historic lows amid the coronavirus pandemic. Typically, when mortgage interest rates are low, borrowers refinance in order to lower their monthly payments. However, with a cash-out mortgage refinance its also possible to use the equity that youve built up in your home to cover a big expense.
You can visit an online marketplace like Credible to view current refinance rates and get cash out of your home to pay off high-interest debt.
Cons Of Refinancing A Mortgage
Although there can be many benefits to refinancing, it might not be the best option for every homeowner. Depending on your financial situation and the type of loan you have, you could face roadblocks that can complicate refinancing or make it financially inadvisable. So, before starting down this path, make sure to take a clear, hard look at your finances and weigh the cons of refinancing your mortgage.
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It Could Increase Your Loans Predictability
Predictability isnt a concern if your original loan has a fixed rate. You experience year-to-year variation on the escrow side, as your property taxes and insurance fluctuate. But your principal and interest payment remain fixed for the life of the loan.
But if your original loan has an adjustable rate, predictability is a problem, and refinancing to a fixed-rate loan is a reasonable solution. If your new fixed-rate loan prevents a costly upward rate adjustment, all the better.
Can I Refinance My Home Without Taking Cash Out In Order To Lower Payments Or Interest
There are several reasons why you might want to refinance your home without taking the cash out. If you know you can get a better interest rate on your current mortgage, if you have an adjustable rate mortgage, if you want to get rid of your PMI, or if you want to lower your payments, you may want to refinance without the cash-out option.
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Is There A Downside To Refinancing
Refinancing involves replacing your existing mortgage with a new one. This can lower your interest rate and monthly payment, and potentially save you thousands.
But while refinancing has its benefits, it isnt the right choice for everyone.A refinance starts your loan over. And there are closing costs to consider, too.
Some people only focus on the new rate and payment. For refinancing to make sense, though, you have to look at the bigger picture and make sure youll save in the long run not just month-to-month.
In this article
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Refinancing Can Lower Monthly Mortgage Payments
When its right for you:
- You want more financial flexibility month to month
- Youre saving for a long-term purchase, such as a childs college tuition
- You recently went from a two-income household to one-income household
- You took on another large loan payment
Regardless of your why, refinancing can be a great tool to help you save on your monthly expenses, giving you more room for your other needs or goals. One way to do this is by lengthening your loan term. For example, if youve been paying your 30-year mortgage for the past 5 years and you refinance to a new 30-year mortgage, your remaining balance will be spread over an additional 5 years. This longer term can help decrease your mortgage payments and give you extra wiggle room in your budget to meet your needs.
Keep in mind that a longer loan term means youll be paying interest for a longer period of time as well. However, if you can refinance to a lower rate, too, then the interest savings could help offset the cost.
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Founded in 1976, Bankrate has a long track record of helping people make smart financial choices. Weve maintained this reputation for over four decades by demystifying the financial decision-making process and giving people confidence in which actions to take next.
Bankrate follows a strict editorial policy, so you can trust that were putting your interests first. All of our content is authored by highly qualified professionals and edited by subject matter experts, who ensure everything we publish is objective, accurate and trustworthy.
Our mortgage reporters and editors focus on the points consumers care about most the latest rates, the best lenders, navigating the homebuying process, refinancing your mortgage and more so you can feel confident when you make decisions as a homebuyer and a homeowner.
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Lower Your Monthly Payments
When you refinance into a new rate, you could potentially lower your monthly payments, too.
Let’s say you have 15 years left on your initial mortgage, and you refinance for a lower rate into a 15-year term. Your payment will probably go down. If you refinance into a 20-year term, you’ll save even more every month because you’re spreading the same loan principal out over a longer period of time.
Keep in mind, if you stretch your mortgage out across a longer term, you’ll be paying your mortgage for longer. But depending on your goals, you may decide it’s worth it.
You Could Pay More In The Long Run
Yes, refinancing can provide immediate monthly savings by lowering your mortgage payment. But it doesnt always offer long-term savings.
For instance, if youre almost done paying off a 30-year loan and you start over with a new 30-year term, youll pay a lot more interest in the long run.
And your new interest rate and loan term arent the only factors influencing the overall cost. The amount of your new mortgage also plays a role.
Cash-out refinancing is another common reason for replacing a mortgage. This involves borrowing cash from your equity for home improvements, debt consolidation, and other purposes. In this case, your new mortgage balance will exceed what you currently owe.
Now, if youre starting over with a new 30-year term and a lower rate, even with a bigger balance you might save monthly. But youll pay more in the long run not only because you borrowed more, but also because you extended the overall loan term.
Before applying, use a refinance calculator to estimate your savings and costs.
You can avoid paying more by not touching your equity and keeping your new payoff date similar to the original one.
Sometimes, though, paying more is the lesser of two evils.
The bottom line is that refinancing can provide wiggle room in your budget and free up cash for other purposes. So if youre having trouble paying your current mortgage payment or hitting other financial goals, the immediate savings might keep your head above water.
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If You Are At Risk Of Losing Your Income
Even though economic recovery is on the horizon for the country as a whole, many families may still be struggling with financial uncertainty. If you think youre at risk of losing your income or are in another financially unstable situation, it might be better to hold off on refinancing until youre certain youll be able to afford it.
Take Out A Personal Loan
You may prefer a personal loan over a refinanced mortgage. The application and approval process is quicker, and you’ll pay back the loan over a shorter amount of time than a mortgage.
However, personal loan rates are often higher than mortgage rates. And with such low mortgage rates these days, it could be a good time to refinance.
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Refinancing Costs Money And You Wont Always Break Even
When it may not be right for you:
- You plan to move in the next few years
- You plan to refinance again soon
When you refinance, you have to pay closing costs, just as you did when you purchased your home and got your initial mortgage. The costs to refinance are typically around 25% of your loan balance and cover expenses for third-party services, like your title search and insurance, appraisal, and county recording fees. Some lenders also charge lender fees, such as application, origination, and underwriting fees and loan officer commissions.
Because it will take some time before you recoup the expense of securing your new loan, think about how long you intend to keep the mortgage. You want to ensure its a long enough timeframe for you to break even, or hit the point where your savings begin to outweigh your refinance costs.
Lets say the total cost for your new loan is $3,000, and youll save $100 monthly by refinancing. In this scenario, it would take you two-and-a-half years to break even.
This chart is for illustrative purposes only.
Cashing Out Equity Can Cover Some Expenses
If you want to pay down and consolidate your debts or make improvements to your home, a cash-out refinance can help you do that by allowing you to borrow against the equity in your home. Youll simply borrow more than you currently owe and keep the difference.
Heres how it works, using real numbers.
You currently have a loan for $150,000 and your home is worth $200,000. Right now, you have $50,000 in equity. Youd like to pull out $20,000 to finish your basement, so you refinance and borrow an additional $20,000. Your new loan balance is $170,000 and you still have $30,000 of equity in your home.
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Pay Off Your Home Sooner
Refinancing into a shorter term saves you thousands of dollars. Not only are rates at historic lows right now, but lenders charge lower rates on shorter terms. Plus, if you get a term that’s five years shorter, that’s five years that you won’t have to pay interest.
Take Advantage Of New Loan Features
Refinancing means you can ask your lender to make features like redraw facilities and offset accounts available to you. An offset account acts like a transaction account which is attached to your home loan. Money deposited in it is offset against the balance of your loan when interest is calculated.
For example, if you have $50,000 in your offset and a $450,000 loan, interest will only be charged on $400,000 of the loan. A redraw facility allows you to make extra repayments on your loan and redraw these if needed, at the discretion of the lender.
An offset account is a great way to reduce interest on the loan, while a redraw facility can be advantageous in an emergency or if you need to make a large purchase. Your lender may increase your interest rate to accommodate adding these facilities, so make sure the savings add up compared to the expense you may incur.
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Monthly Principal And Interest On 30
|30-Year Vs. 15-Year|
- Attorney fees
Keep in mind that in some cases, a lender might be willing to waive certain fees , so be sure to ask if any of your closing costs are negotiable or if any discounts are available.
There are also several lenders that offer no-closing-cost refinance options, which allow you to roll your closing costs into your loan amount. However, this often results in a higher interest rate and higher monthly payments. If you plan to stay in your home for a long period of time, its generally better to cover your closing costs upfront to avoid paying more over time.
Additionally, getting your financial profile in the best shape possible with a good credit score, stable income and low amount of debt can help you qualify for a competitive rate on your mortgage, which will reduce your costs over the life of your loan.