WHAT IS REFINANCING?
You’ve probably heard a lot of chatter recently about how
mortgage interest rates, which are currently sitting at
historically low levels, are beginning to creep up again. If
you’ve been considering refinancing your home, you may be
feeling some pressure to get the ball rolling before you miss out
on the great deals that are out there right now. These
concerns are understandable; many real estate specialists
have been warning for months that people interested in
refinancing should act fast, and their predictions have turned
out to be correct.
But refinancing isn’t right for everyone, so it’s important to
carefully examine your whole financial picture before moving
forward with trying to refinance your home. Before we get into
the nitty gritty of how to go about preparing for a refinance,
let’s go over what refinancing really means: if you refinance
your home, you’re essentially taking out a new mortgage to
pay off your old one, then repaying the new mortgage
according to its terms.
Many people choose to refinance when they know they’ll get
a substantially lower interest rate on a new mortgage, thereby
lowering their monthly housing payments. People usually
expect to obtain a lower interest rate because of one of two
factors: the borrower’s credit score has drastically improved,
thus entitling them to a more favorable interest rate, or
because market forces have caused interest rates to drop.
KEY TERMS RELATED TO REFINANCING
Before going into any more detail about the pros and cons of refinancing, it’s
critical to understand some key terms related to the process. This will ensure that
the rest of this guide is clear, and that you’ll understand what your mortgage broker
is referring to when you sit down to talk about the ins and outs of your refinance.
Credit Report – This is a detailed history
of your history with handling your bills
and credit accounts. The information
on this report is used to calculate your
Credit Score – This is a numerical
representation of your creditworthiness,
based on the information contained on
your credit report. Scores range
between 300 and 850.
Interest Rate – This is the percentage of
your total loan balance charged by
your lender every month for the
privilege of borrowing money. Your
mortgage’s interest rate can have a
substantial impact on your monthly
payments, so most people refinance
their home loans in order to obtain a
lower interest rate.
Fixed-Rate Mortgage – This is a type of
mortgage that charges a fixed
(non-fluctuating) interest rate on your
home loan over the life of the loan. This
interest rate is pre-established by your
lender before you take on your
Adjustable-Rate Mortgage – This is a
type of mortgage that charges a
non-fixed (fluctuating) interest rate on
your home loan. The percentage you’ll
pay is based on broader economic
conditions and can change with little
Balloon Payment – Some mortgages
are designed to charge borrowers a
lower monthly payment in exchange
for paying off the remaining balance
on the loan at the end of 30 years.
These lump-sum payments due at the
end of the term of the loan are known
as balloon payments.
Cash-Out Refinance – In this type of
refinance, the borrower obtains a new
mortgage for the principle still owed on
the original loan and takes a cash
payment for any equity that the home
IS REFINANCING RIGHT FOR YOU?
Refinancing might seem like a great deal, and for many people
it is; but the truth is that the decision about whether or not to
refinance really depends on your personal financial situation.
For example, refinancing makes sense if:
You’ll qualify for an interest rate that’s significantly lower (at least 2-3% lower)
than the rate you currently have; this savings will justify the costs associated with
You have excellent credit; this will entitle you to the most favorable terms on
your new home loan
You plan to stay in your home for several years; again, this will make the costs of
You want or need to change the terms of your original mortgage; for example,
you wish to switch from an adjustable to a fixed-rate mortgage, or you can’t
afford a balloon payment that’s looming in the future
You want to cash out the equity in your home (see above for an explanation of
Your current mortgage is “underwater”; in this case, it’s unlikely that a bank will
grant you a new mortgage, so the costs of applying will probably not be money
Your mortgage is almost paid off; if your current home loan is almost paid off,
restarting a new home loan might mean you’ll end up paying more in interest
over the life of the loan
You plan to move in the next couple of years; again, the cost of refinancing
won’t be worthwhile if you’re not going to be staying in the home long enough
to realize the monthly savings on your mortgage payments
ON THE OTHER HAND, REFINANCING MIGHT NOT BE A
GOOD IDEA FOR YOU IF:
It’s important to consider your total financial and lifestyle picture before deciding
whether or not to move forward with refinancing your home. But if you do think that
refinancing is a good financial move for you, you’ll have to consider your credit.
Read on for more details about how your credit will impact your plans to refinance.
YOUR CREDIT AND YOUR REFINANCE: WHAT YOU NEED TO KNOW
Having good credit is essential to making your refinancing experience
worthwhile. This is because having a high credit score will ensure that the terms of
your new mortgage will be positive enough to offset the costs of refinancing.
So how high should your credit score be? In general, most lenders are looking for
customers with credit in the low to mid 700s. If your credit score falls slightly
outside this range, refinancing might still be worth looking into. Banks vary
somewhat when it comes to the minimum credit score they’re willing to accept
in exchange for the most favorable interest rates, so be sure to do some
investigating before you dismiss the idea of refinancing.
However, if your credit score is significantly below 700, it might be worthwhile to
take some steps to improve it before attempting to refinance. Fortunately, there
are some concrete moves you can start making right away to boost your credit
score. For example:
• Pay down your debts, especially credit
card debt; carrying too much debt is a
serious drag on your credit score,
especially if you have too many
outstanding balances on revolving
credit accounts, like credit cards.
Making it a priority to pay off your debts
will serve as a huge boost to your credit
score, which will make refinancing much
• Get current on any debts that have
gone into collections; one of the fastest
ways to improve your credit score is to
pay off outstanding debts that have
gone into collections. This shows that
you take your financial obligations
seriously, and will give your credit a
• Be sure you’re paying your bills on
time; 35% of your credit score is
determined by your history with
repaying your debts on time and in-full,
so if you have a bad habit of
neglecting your bills, it’s time to break
it. Paying all your bills by their due dates
is a sure-fire way to boost your credit
score, so put this task at the top of your
• Improve your credit utilization ratio;
it’s important to keep the overall
amount of credit you’re using to 30% or
less of the total credit that’s available
to you because utilizing more than this
amount will ding your score. Paying off
debts helps, but it’s also a good idea to
try to raise the credit limits on your
credit cards if possible.
It’s also important to note that, regardless of whether you
plan to refinance now or after you’ve had an
opportunity to improve your credit, there are some
general guidelines and precautions you should take to
make sure that your credit is in tip-top shape when you
start putting in refinance applications. These include:
Your ability to refinance into a lower interest rate rests on your credit,
so be sure to take this piece of your financial picture very seriously.
Checking your credit report and score regularly; this way, you’ll be sure that
there are no errors on your report and that your score is so that if any issues
pop up, you’ll be able to fix them before the refinance happens.
Not applying for new credit in the 60 days before you apply for a refinance;
applying for new loans or credit cards too shortly before refinancing will
could cause your credit score to decline. Don’t take the chance – wait until
after your refinancing is complete to get new credit.
Keeping up with good money habits; paying your bills on time, avoiding
debt, and keeping a good mix of credit accounts on your credit report will
all help keep your credit solid enough to proceed with a refinance,
whenever you feel the time is right.
PUTTING IT ALL TOGETHER
Now that you’re more educated about the process of refinancing,
it’s time to put that knowledge to good use. Follow the steps below
to put it all together and get started with your refinance:
Refinancing might seem like a complex process, but with a mix of the right
information and a patient attitude, you’ll get through it without losing your mind.
But don’t wait too long – today’s historically low rates won’t be around forever.
Get started today and you’ll be on your way to a wealthier tomorrow!
Step 1 – Decide whether or not refinancing is right for you; see the
information above to evaluate whether or not your lifestyle and finances
will make refinancing a worthwhile move.
Step 2 – Check your credit report and score; before moving forward with
a refinance, you’ll need to be sure that your credit will allow it. Pull your
credit report and check it for errors, and be sure your score is high
enough to make you a good candidate for refinancing.
Step 3 – Start shopping around; if you feel that refinancing will be
beneficial to you and your credit is good enough to permit you to do so,
it’s time to start looking for a lender. If you’re happy with the bank that
issued your current mortgage, start there. If not, ask friends and family if
they can recommend a mortgage broker or lender they’ve been
satisfied with. Be sure to gather as many quotes as possible – you never
know what types of interest rates banks are willing to offer unless you ask.
Step 4 – Be patient; refinancing involves a lot of paper work, at least one
appraisal of your home, more paperwork, and the expenses related to
closing on a new mortgage. Just remember that, if you get a good
interest rate, all this time and money will pay off in the long run. Be
patient and keep reminding yourself of how much money you’re saving!