Easy Ways to Benefit from Refinancing Your Home Loan
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While interest rates are inching north, they are still lower than recent decades, and that makes refinancing a home loan a viable option for some homeowners. If you nabbed a record-low interest rate loan in the last few years, consider yourself lucky. For you, refinancing probably doesn’t compute. However, for other homeowners, refinancing could deliver attractive benefits including lower rates, shorter terms and the opportunity to cash out equity.
“Rates are going up, so you want to look at your financial position and make sure it is as secure as possible,” said Jennifer Beeston, vice president of mortgage lending at Santa Rosa, Calif.-based Guaranteed Rate Mortgage.
When you opt to refinance your home, what you’re really doing is taking out a new home loan to pay off your current mortgage. Since it is considered a new loan, a refinanced mortgage will come with many of the same fees and expenses, including closing costs, that you paid when you applied for your initial home loan, and that could total several thousand dollars.
The more equity you have in your home — that’s the difference between your home’s value and the amount left on your current loan — the more options you’ll likely find for refinancing, as you’re closer to paying off your debt. Typically, loan officers recommend that homeowners have at least 20% equity in their homes before they consider refinancing, Beeston said.
There are situations where owners with less equity can refinance with less equity, such as certain VA loans (available to active servicemembers, veterans and surviving spouses) and some Federal Housing Authority loans, which have lower equity thresholds for refinancing.
To assess your individual situation, talk to an experienced loan officer or mortgage broker. Also, determine how much you could save by refinancing.
Potential benefits of refinancing your home
By refinancing your mortgage, you may be able to obtain more favorable terms than your original home loan or gain more financial flexibility. Here are some of the most common benefits:
Lower monthly payment. While rates have been at historic lows in recent years, plenty of homeowners have mortgages with interest rates well above current averages. In 2008, the average rate on a 30-year mortgage was 6.03%, while in 1998, it was 6.94% and, back in 1988, the average was 10.34%. “Although rates have bounced up from rates we hadn’t seen in a long time, they are still very competitive,” said Robert Barthelmess, managing partner of Miami-based BGI Capital. “If you have a mortgage now in the 6% or 7% range and you can refinance to 4%, by all means you should.” Refinancing at a lower interest rate could lower your monthly payments and save you money over the course of your loan.
Shorten the length of your loan: If you have a 30-year mortgage with an interest rate that’s higher than today’s rates, you may consider refinancing to a shorter term, perhaps a 15-year loan. By reducing the term of your loan, you’ll take advantage of lower rates and pay off your loan faster, resulting in overall savings.
Refinance out of an adjustable-rate mortgage: Some mortgages do not have a fixed interest rate. Variable-rate loans have interests that fluctuate over the term of the loan, while adjustable-rate loans start out with a fixed rate and then move to adjustable rates. In either instance, when rates move higher, it costs the borrower more money in interest payments. By refinancing to a new, fixed-rate mortgage, homeowners could lock in a lower rate and secure a consistent payment schedule. “If you can get into fixed loan, that’s a move you’d like to make so you’re protected from any increases,” explained Beeston.
Tap into the equity from your home: If you’re interested in using some of your money to make home improvements or to buy another property, it could make sense to refinance, said Barthelmess. If a borrower takes advantage of cash-out refinancing, they could use that money to fund a purchase. Or, alternately, if a new loan affords significant savings, you can use your free cash for another purpose, such as renovations or toward another loan.
Consolidate debt: If a homeowner has considerable outstanding debt from other lenders, such as a car loan and credit card debt, but has equity in their home, refinancing to consolidate debt into one loan could be beneficial. Credit cards could carry 18% interest, while a refinance loan could be much lower because it’s secured by an asset (your home). Borrowers can use also use a refinanced home loan to pay off other outstanding debt, and this is a popular reason for some people to refinance, Beeston noted.
What to watch for when refinancing your mortgage
Rising interest rates: Rates fluctuate daily based on market conditions. If you’re considering refinancing, try to move as quickly as possible to take advantage of the most desirable rates.
Fees and closing costs: Typically, borrowers can expect to pay between $2,000 and $5,000 in fees for refinancing. Some lenders may charge fees similar to fees in your original application, including origination, appraisal and application fees.
Affordability: Some homeowners may be eager to take advantage of lower rates and refinance their mortgage, but you need to make sure you can afford a new loan. For instance, if you refinance for a lower rate and a shorter term, it could result in higher monthly payments, even if you shave several years off your loan. Be sure that you have steady monthly income or enough cash reserves to support any increase in payment.
No-closing cost loans: One thing to watch for when refinancing are offers no-closing cost loans. While it sounds good to avoid paying closing costs a second time, these costs are sometimes baked into the loan in the form of an additional fee tacked onto monthly payments or a slightly higher interest rate. Make sure you read the fine print and run all the numbers carefully, Beeston advised. In some instances, it may save you money to pay one-time closing fees, rather than have added monthly expenses.
Should you refinance your mortgage?
The best way to answer this question is to review your finances, including your current income, as well as any upcoming expenses that could impact your borrowing and ability to make payments. Just as you (hopefully) did in for your initial mortgage application, it is a good idea to run a credit report and make sure your credit score is accurate.
It is advisable to speak to a mortgage professional, either the loan officer or mortgage broker you worked with on your initial loan, or someone recommended by family or friends. LendingTree.com also has suggestions for mortgage brokers. These professionals can help you analyze your current loan situation, including the rate, the amount of principle and equity and determine if refinancing makes sense for your situation.
“It never hurts to get a mortgage checkup,” said Mike Power, branch manager for Schaumburg, Ill.-based BBMC Mortgage, a division of Bridgeview Bank Group. “It might make sense to take a longer term loan or a shorter term loan, or to consolidate your debt.”
When it makes sense stay put with your current home loan:
- If you’re fortunate enough to have an interest rate lower than current rates, it probably makes sense to continue on with your current loan.
- If the amount of savings would be less than closing costs, you may want to reconsider a refinanced loan.
- Determine if the new rate is low enough to warrant the expense and legwork of refinancing. If a refinanced rate is only one-eighth of a percent lower, Beeston said she would tell clients to stay put with their existing loan. “Refinance rates have to be at least one-quarter percent lower and it has to make sense,” she said.
- If you haven’t built up enough equity in your home – ideally 20% — to qualify for your best refinancing options, refinancing might not be wise.
Good times to refinance to a new home loan:
- Your current loan interest rate is higher than today’s trending rates
- You want to shorten your loan term and adjust the interest rate, and you have income to support any increase in monthly payments that results from a more aggressive payoff schedule.
- You’ve built up 20% or more equity in your home
- You want to move from a variable- or adjustable-rate mortgage to a fixed-rate loan
By refinancing their home loans, many homeowners can save money and get to their ultimate goal – homeownership – faster. To determine if refinancing is right for you, do your research and speak to a mortgage professional.
“Most people don’t do the math, they just see they can get rate down,” said Beeston. “You always want to know how that translates to payments and how many years you might be adding to your loan.”