Interest rates are low at the moment, and that means you’re probably giving mortgage refinancing serious thought. Before you refinance a loan, however, it is important to know both the benefits and drawbacks of refinancing and how the process works. You must also ask yourself, “When does it make sense to refinance?”
How Does Refinancing Work?
Refinancing does not differ much from obtaining your original mortgage. You can refinance your mortgage with your current lender or through another financial institution. The process usually takes four to six weeks from the application date.
After finding the lender offering the best terms and interest rates, you fill out the application and provide income and employment documentation, including tax returns. You must also show proof of homeowner’s insurance.
Expect to have your house professionally appraised. Make needed repairs beforehand and ensure the house looks clean and fresh. If the house is not in good condition, the appraised value is lower. The home’s present fair market value is decided by various factors, including:
- Square footage
- Recent comparables
Comparables, or “comps,” are recently sold properties similar to yours. If you live in a condo, townhouse or development, comps are usually straightforward. If the home is a less-conventional property, true comps are harder to come by.
Just as you did with your original mortgage, you will need a closing for your refinanced loan. Standard closing fees are between 2% and 5% of the new mortgage. Closing costs consist of:
- Credit report fee
- Home appraisal
- Loan origination fee
- Title insurance
- Underwriting fee
Closing costs also depend on the lender and type of loan. Before the closing, your lender will send you a fee list. You can clarify the amounts before closing if you have any questions.
When Does It Make Sense to Refinance?
Refinancing only makes sense if it saves you money, and that means taking all costs into consideration. Homeowners refinance for one of two reasons: They either want a lower interest rate, or they wish to pay off their mortgage sooner. Historically, it makes sense to refinance if you are saving at least 2% on your interest rate. For some borrowers, savings less than that may still make financial sense.
Before refinancing, ask yourself a few questions, such as how long you intend to stay in your home. If you think you will move within the next few years, refinancing probably does not make sense. That is because any savings gained from refinancing will probably be wiped out by closing costs.
There is an exception. If you currently have a fixed-rate mortgage, you can refinance to a lower adjustable-rate mortgage if you think interest rates will continue to fall. If you plan to move within the next few years, the odds of the adjustable rate rising substantially are slim. On the other hand, if you have an adjustable-rate mortgage and want the peace of mind of a fixed-rate loan, that is another reason to refinance when fixed-rates are low.
Figure out the interest rate that makes financial sense for your needs. Determine roughly how long you intend to stay in the house. Ascertain your annual savings via a specific interest rate, and then divide the closing costs by the annual savings. Using this method, you can calculate the break-even point at each rate. Refinancing only makes sense if you plan to stay in the house beyond the break-even date.
Your credit score determines the kind of interest rates for which you qualify, so boost your score ahead of time. ScoreMaster provides reports as well as actionable steps you can take to achieve your best possible credit score — making it an easy one-stop shop for all your credit information and needs.
Avoid getting a new credit card or any other line of credit before refinancing. This could harm your loan eligibility.
If you’ve done the math and refinancing makes sense for your bottom line, you know the rest may depend on your credit score. ScoreMaster, with our gamified system, can help you achieve your best credit score. That, in turn, allows you to secure the lowest rate for refinancing and the lowest monthly obligation. If you want to enhance your financial opportunities, contact ScoreMaster today.
*Legal Disclaimer – ScoreMaster is a patent-pending educational feature simulating credit utilization’s effect on credit scores via payments or spending. Your results may vary and are not guaranteed.