24
Feb

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Securing a mortgage is an admirable accomplishment. As a homeowner, you were able to save for a down-payment, maintain positive credit and find a lender. Whether you bought your home 5 or 15 years ago, the question of whether to refinance is an important one. Review the questions and answers below to learn more about the process.

What is refinancing?

Refinancing a mortgage means applying for a new loan to pay off your existing mortgage. Refinancing can be beneficial for a few reasons, including:

  • A lower interest rate. Mortgage rates are extremely low compared to loans secured before the housing crash. Current rates hover between 3.8 and 3.9 percent, a far cry from the average5 percent of 2007.
  • Mortgage-type conversions. Those seeking predictable payment amounts often choose to refinance an Adjustable-Rate Mortgage (ARM) to a fixed-rate loan. This strategy allows you to live by a consistent housing budget rather than relying on shifts in the market.
  • Equity. If you are a long-time homeowner, you probably have a decent amount of equity built into your home. A new mortgage allows you to withdraw cash from your home’s equity to use for other purchases.
  • Eliminating Private Mortgage Insurance (PMI). Suppose you bought your home and included a 15 percent down-payment. Although the up-front investment was significant, it wasn’t enough to avoid PMI. Refinancing allows you to contribute additional funds to the mortgage in order to reach the 20 percent mark, increasing your equity and eliminating PMI.

Do I qualify for refinancing?

Refinancing a mortgage means applying for a new loan, and your lender will assess your qualifications based on the same information used to secure your existing mortgage, including your:

  • Employment history
  • Income and other assets (investments, other property, etc.)
  • Credit score
  • Home appraisal, i.e., the value of the home to be refinanced

When should I refinance?

Credit score improvements and a drop in interest rates could spell good news for your mortgage. In addition to personal growth, you’ll know it’s time to refinance when the following conditions are met:

  • No pre-payment penalty. Before pursuing a refinance, check to see if your existing mortgage has a penalty for paying early. Associated costs could eclipse the money saved from refinancing.
  • When interest rates dip. In general, it’s a good idea to refinance if you can save at least one percentage point on your mortgage interest rate.
  • You know how long you plan to stay in the home. Refinancing your mortgage is less concerning if you plan to stay in your home for several years. However, if you plan to move in the near future, changing the terms of your loan could affect your earnings on a potential sale and your ability to offset closing costs (see below).
  • The math makes sense. Contrary to popular belief, “no cost” refinancing doesn’t exist. Closing costs are assessed for every mortgage—whether they are out-of-pocket or rolled into the loan in the form of a higher interest rate. Lenders also attach fees to almost every new loan, increasing the price of refinancing your mortgage. For example:

Suppose you have a $300,000 30-year mortgage with an interest rate of 6 percent. You plan to refinance at 4 percent and roll the $6,000 closing costs into the new mortgage with the same terms and payoff date. Refinancing will save you about $370 per month, which means you’ll need to stay in your home for 16 months before breaking even.

Compare the math to your long-term housing plans to determine whether refinancing is a wise choice, and talk to a financial planner along the way.

  • Mortgage savings exceed tax breaks. How do monthly savings and deductible expenses compare? Refinancing at a lower interest rate reduces the amount of mortgage interest deducted from your income taxes. Compare potential savings to the loss of tax income to determine which option is best.
  • Your credit is stable. Securing the best deal is impossible without excellent credit. Although interest rates are low, you won’t gain access without a score that places you among the elite. Pursue credit repair before refinancing. Raising your score could save you thousands over the life of your mortgage.

 

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