Mortgage Refinance Tips: 10 Steps to Success
A mortgage refinance allows you to replace your existing mortgage with a new one that has more favorable terms, such as a lower interest rate. You can also refinance a home loan to tap your equity for home improvements or to consolidate high-interest debt, among other purposes. Here are some mortgage refinance tips to guide you through the refinance application process.
- Identify your refinance goals
- Determine how much equity you have versus what you need
- Decide which mortgage refi type is right for you
- Check your credit score and DTI ratio
- Gather your paperwork
- Get quotes from multiple lenders
- Prepare for a home appraisal
- Consider your closing costs and break-even point
- Lock in your mortgage rate
- Understand the refinance closing process
10 mortgage refinance tips
Don’t go into the mortgage refi process blind; consider the following mortgage refinance tips first. They can help you manage expectations around refinancing your mortgage.
1. Identify your refinance goals
It’s important to determine exactly why you’re interested in refinancing your mortgage. Goals for a mortgage refinance might include:
- Lowering your interest rate and monthly payment
- Shortening your loan term
- Switching from an adjustable-rate mortgage to a fixed-rate mortgage
- Switching from a Federal Housing Administration loan (FHA loan) to a conventional loan to drop mortgage insurance premiums
- Tapping your home equity
No matter your goals, a mortgage refi should have a net tangible benefit, such as a lower interest rate, lower monthly payment, lower mortgage insurance fees or a more stable mortgage product. If there’s no true benefit to your overall financial health, a refinance might not be the right move.
2. Determine how much equity you have versus what you need
In most cases, you’ll need to have equity to refinance your home loan. Your home equity is the difference between how much your home is worth and how much you owe on your mortgage. For conventional loans, you’ll need at least 3% equity for a rate-and-term refinance, and 20% equity for a cash-out refinance.
Your lender will verify your home’s value during the refinance process by ordering an appraisal, but you can use a home value estimator to get an idea of its value. Additionally, verify your outstanding mortgage balance by checking your mortgage statement online or contacting your lender.
3. Decide which mortgage refi type is right for you
There are several types of home refinance options to help achieve your financial goals. Here’s a rundown of each:
|Refinance Type||Best for|
|Rate-and-term||Simply improves the terms of your loan by securing a lower interest rate and a new loan term.|
|Cash-out||Allows you to borrow against your home equity to fund a home improvement project or for other goals.|
|Limited cash-out||Finances your closing costs into your new loan, receiving a small sum of cash back (up to $2,000) from the transaction.|
|Streamline||Staying in a government-backed loan, such as an FHA loan or a VA loan, and skipping income documentation and home appraisal requirements.|
4. Check your credit score and DTI ratio
Refinancing your mortgage means you’ll need to meet many of the same eligibility requirements you did when you first bought your home. Your lender will scrutinize your credit score and debt-to-income ratio. If you’ve improved your credit and finances since buying your home, this can help you get a lower interest rate, too.
To put yourself in the best position to qualify for a mortgage refi, be sure you exceed the following requirements:
- Have at least a 580 credit score for an FHA refinance or a 620 score for a conventional refinance. VA lenders and USDA lenders technically don’t have a minimum credit score requirement; however, the lenders that offer those loans might require FICO scores of 620 and 640, respectively.
- Keep your DTI ratio at or below 43%. Some refi lenders allow a DTI ratio as high as 50%, but a lower DTI ratio makes you a less risky borrower and improves your chances of getting more competitive interest rates.
5. Gather your paperwork
Unless you’re applying for a streamline refinance, there will be plenty of paperwork involved when refinancing your mortgage. Prepare to deliver the following documents to your lender:
- Bank statements
- Pay stubs
- Federal tax returns
- Retirement account statements
- Documentation for other sources of income, such as alimony, child support or Social Security
- Homeowners insurance policy information
- Mortgage payoff amount
6. Get quotes from at least 3 lenders
It costs money to refinance a mortgage, which is motivation enough to comparison shop for the best deal. You can certainly refinance with the same lender, but don’t stop there. Ask for mortgage lender recommendations from family members, friends and colleagues, and check out lender reviews to see what other options may be out there.
Once you’ve narrowed down your list, gather refinance quotes from three or more lenders and ask them plenty of questions, such as:
- What types of mortgage refinance programs do you offer?
- What are your general refinance qualification guidelines?
- How much are closing costs for a refinance?
- How should I deliver my documentation (online, in person or fax)?
For more guidance, here are more tips and tricks for choosing the right mortgage lender.
7. Prepare for a home appraisal
Your lender will need to verify your home’s current market value. The reason: your home is the collateral for your mortgage and its value must justify the loan amount. That’s where a home appraisal comes in.
An appraisal is an unbiased opinion of your home’s value conducted by a licensed property appraiser. Your lender will directly hire an appraiser to evaluate your home. If the appraisal comes in too low, you may have to make up the difference in cash or hold off on your mortgage refi.
Get closer to your desired home value by keeping these home appraisal tips for refinancing in mind:
- Be present during the appraisal to answer questions and point out unique characteristics of your home.
- Complete any unfinished home improvement projects ahead of the appraisal.
- Make sure your interior is clean and clutter-free.
- Spruce up your home’s exterior through landscaping and curb appeal.
8. Consider your closing costs and break-even point
Mortgage refinance closing costs range from 2% to 6% of your loan amount. Will you pay those costs out of pocket, or finance them into your new mortgage?
If you decide to finance them, remember that your loan amount and monthly payment will increase, and you’ll pay more in interest over the life of your loan.
You’ll need to calculate your break-even point, which is the amount of time it takes to recoup the money you paid in closing costs to refinance your home loan. For example, if you paid $7,500 in closing costs for a loan that saves you $125 on your monthly mortgage payment, it would take you 60 months — or five years — to break even ($7,500/$125 = 60). In other words, you’d need to stay in your home longer than five years to truly benefit from a mortgage refi.
9. Lock in your mortgage rate
Another quick mortgage refinance tip is to lock in your rate early. Mortgage rates are unpredictable, so it makes sense to lock yours in as soon as possible to snag an affordable mortgage refi rate. A mortgage rate lock allows you to secure your interest rate for a set amount of time — typically 30 to 60 days. Locking in your rate can minimize surprise changes to your monthly principal and interest payments at closing.
One caveat to this mortgage refinance tip: Be sure you’ll close on your refinance before your rate lock expires, otherwise you’ll likely pay a fee to extend it.
10. Understand the refinance closing process
Refinancing your mortgage could take 20 to 45 days from start to finish, or longer. At closing, check that all the paperwork is correct and your new escrow account is properly funded. After your closing, you’ll have three business days to cancel the refinance if you don’t believe it’s the right choice for you, according to the Consumer Financial Protection Bureau.
If you decide to move forward with the mortgage refi, your new lender will write a check to your old loan servicer to pay off that loan. Your first mortgage payment on the new loan is typically due on the first day of the second month after your closing.