Want to refinance your mortgage? Do These 7 Things Now | Smart Change: Personal Finances
For many homeowners, refinancing a mortgage can be the key to a better financial future. A lower interest rate results in lower monthly payments and less total interest paid, freeing up money for other purposes.
With interest rates rising, the number of people who could benefit from refinancing has shrunk in 2022. However, there are still millions of homeowners who can lower their payments if they refinance at current mortgage rates.
An estimated 5.9 million well-qualified homeowners could cut their interest rates by at least 0.75 percentage points from current rates, according to mortgage data firm Black Knight. These owners could reduce their monthly payments by an average of $275 per month per borrower. Most experts note that a rate reduction of between 0.50 percentage point and 1% makes a mortgage refinance worthwhile.
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Refinancing a mortgage takes time. Closing times averaged 45 days in December, according to ICE Mortgage Technologies. Be sure to take this period into account when applying for a new loan. If you’re currently considering a mortgage refi but aren’t sure where to start, follow these tips to help you get started.
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1. Set yourself a refinancing goal
Most homeowners refinance in order to get a lower interest rate and therefore lower their monthly payments. However, this is not the only reason to refinance.
Different types of loans offer different benefits.
You may want to switch from an adjustable rate mortgage to a fixed rate mortgage to secure a permanently lower rate. Maybe you want to switch from a 30-year loan to a 15-year loan to pay off your mortgage faster. If you have sufficient equity, you may also be able to save on mortgage insurance by switching from an FHA loan to a conventional mortgage.
Perhaps you have recently had to deal with large medical bills, unexpected home repairs, or other expenses that are straining you financially. If you have accumulated enough equity in your home, a withdrawal refi will not only allow you to refinance your loan, but also withdraw additional money.
Knowing what you want to accomplish with a refi will help you determine the type of mortgage product you need. Consider all the options to see which is best for you.
2. Check your home equity
According to Discover Home Loans, you could qualify for a conventional refi loan with as little as 5% of your home’s equity. However, most lenders prefer that you have at least 20% equity.
If you have more equity in your home, you may qualify for a lower interest rate and lower fees because lenders will view borrowers with higher equity as less of a loan risk. More equity also means you’re less likely to owe more than the home is worth if home prices drop.
To get an estimate of your home’s equity, subtract your current mortgage balance from the current market value of your home. The result will be the equity in your home. Contact a knowledgeable local real estate agent to get an idea of your home’s value. Zillow’s home price estimate can also be a rough starting point.
You also need to prepare your home for a formal appraisal, which will be part of the refinance application process. Have the documentation of the improvements you have made to the house handy. (For example, did you add a bathroom or replace an old roof?) It won’t hurt to clean up and organize your home to get it back in shape.
If your income has taken a hit, a home equity loan may offer less expensive help.
Using a line of credit secured by your home equity can help you in times of need. Click below to find out more.
3. Check your credit score and credit report
Before making any loan decision, it is important to check your credit score, as well as your credit report.
Your credit score will largely determine the favorable rate a lender will offer. The higher your score, the lower the rate you will be entitled to and the lower your monthly payments will be. If you have a low score, research ways to improve your credit score well before applying for a loan.
Your credit report displays the information on which your score is based. This is where you can check for any errors that could negatively affect your credit score. If you find any errors in your report, you can contact the credit bureaus to have those items removed. Be prepared to provide documentation proving the error.
As part of the consumer protections put in place by the CARES Act, you can get a free weekly credit report from one of the major credit bureaus until April 2022. one free report from each credit reporting company per year.)
You should also be aware of factors that could temporarily affect your credit score. Applying for credit cards, personal or auto loans right before, at the same time, or right after asking for a refi will lower your score, albeit temporarily.
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4. Do the math to see if refinancing will pay off
Before applying for a refi, make sure you fully understand the costs associated with a new loan. Refinance closing costs are usually between 2% and 5% of the total loan amount. For a refi to make sense, you need to be able to recoup those closing costs, as well as save money in the long run.
To determine if it’s worth it, you’ll need to calculate your break-even point. This is the time it will take for the savings from the new loan to exceed its cost. You can calculate the break-even point by dividing the closing costs of the loan by the amount of money you save each month.
For example, if your closing costs are $5,000 and your monthly savings are $100, your breakeven point would be 50 months or about four years. In this case, refinancing probably makes sense if you plan to live in your home longer than four years.
An easy way to determine if a refi is right for you is to use a mortgage refinance calculator.
5. Get your mortgage documents in order
You need lots of documentation that proves your financial readiness for refinancing.
Documents you should have on hand include your latest pay stubs, the last two years of W-2s, information about your current home loan, as well as property tax and home insurance information.
If you are self-employed or have a non-traditional job, have two years of bank statements available. You may also need a profit and loss statement from your bank, 1099 forms for the past two years, and customer bills as proof of income.
A lender may have additional documentation requirements based on their initial assessment of your finances. Once you’ve decided on a lender, find out about any other requirements so you can get them together ahead of time. This will make the application process much smoother.
6. Find a mortgage lender
Don’t just accept the first interest rate offered to you. You should compare the rates and terms of at least three different refinance lenders to see which offers the best package for your needs.
You should also consider different types of lenders. Compare rates from major banks as well as online lenders and local credit unions. If you have a long-standing relationship with a financial institution that also offers home refinancing, check with them as well. You may be able to negotiate a better rate if you already have other financial relationships with the lender, but not always. Don’t assume your current lender is giving you the best deal.
Lock in a lower interest rate by refinancing your mortgage
For borrowers with a strong credit history, refinancing can be a good way to get a lower interest rate. Click below to get a free quote.
7. Lock your rate
Once you’ve found a lender who offers the terms and rate that suits you best, set your interest rate. Ideally, a rate lock will ensure that your interest rate does not increase before the close.
However, rate locks are usually made for periods of 15 to 60 days. With lenders taking a while to close these days, you might want to opt for a longer lock. While some lenders may not charge a rate lock, others will. The rate lock fee can vary between 0.25% and 0.50% of the total loan amount. If your loan does not close on time, extending the lock-in period may result in additional charges.
The key with a rate lock is timing. Check with your lender to find out how long it typically takes to close, then lock in the rate for that amount of time.
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