Guest post by Nate Matherson
If you have been a homeowner for a few years, chances are you have heard your friends, family or even specialized media talk about refinancing your mortgage. Refinancing your mortgage is the operation of paying off your current loan and replacing it by a new one. There are many reasons to consider doing this: lowering your monthly costs, shortening your mortgage term, going from a floating to a fixed interest rate,…
I have personally done it a few times when I was living in Norway. This not only helped me to save substantially on my mortgage but I have also refinanced in order to acquire my rental garages by tapping into the home equity.
In today’s blog post, Nate Matherson from LendEDU (who is far more knowledgeable on various loans than I am) will help us navigate deeper through the process of refinancing your mortgage and see if this is something you should consider or not.
How to Refinance a Mortgage
By Nate Matherson, a millennial personal finance blogger passionate about paying off debt, investing for retirement, and growing his blog LendEDU!
Mortgage loans are long-term loans usually paid off over around 15 to 30 years. But, just because your loan has a long repayment timeline doesn’t mean you’re stuck with the same lender for decades. You could opt to refinance your mortgage if you want to change lenders or to change the terms of your loan.
Refinancing a mortgage means getting a new loan to pay off the old one. You should ideally get a loan at a lower interest rate than your current mortgage. This could make monthly payments and interest costs lower and make repayment more affordable.
There are some definite benefits to refinancing – under the right circumstances. But, there are also downsides and risk to consider as well.
Here’s what you need to know about how to refinance a mortgage and some of the factors you should think about when deciding if refinancing is right for you.
How to refinance a mortgage?
You can refinance a mortgage by applying for a new loan. You can refinance with the same bank that holds your current mortgage, or with a different mortgage lender.
Typically, you’ll be able to refinance only if you can borrow enough to pay off your current loan – otherwise, you’d need to bring cash to the table to pay off the difference between your new loan and the amount owed. This means your home must be worth more than you currently owe.
Read More: Should you buy or rent your home?
When you refinance, you’ll likely have to pay for an appraisal to show what your home is worth in order to qualify for the new refinance loan. Most refinance lenders like to see your total mortgage loan balance below 80% of the value of your home, although some allow you to borrow 90% or 95% of your loan value [Jonathan: This exact number may vary from country to country but the principle remains the same]. You’d likely have to pay an additional monthly cost for private mortgage insurance (PMI) to protect the lender if you borrow more than 80% of what your home is worth.
Banks, credit unions, and online lenders all offer refinance loans and have different policies regarding the amount you can borrow and credit needed to qualify. You’ll need to compare interest rates to see what different lenders are offering and what rates you qualify for.
You’ll also need to consider closing costs and fees you have to pay to refinance, the loan repayment term, and the amount you need to borrow to pay off your old loan. And, you should check to see if your existing lender charges any prepayment fees, as you’d have to pay these costs if you refinance.
Potential Benefits of Refinancing Your Mortgage
There are some big potential benefits to refinancing your mortgage.
The biggest advantage is that you could save money both on your monthly payment and total interest costs. For example, say you took out a 30-year mortgage for $300,000 at 4.781% in 2010. If you now refinanced the remaining $192,000 balance on your mortgage into a new 30-year loan at 4.031%, you would reduce your monthly payment by $650 per month and would save a total of $58,553 – even assuming you paid $6,000 in fees to refinance your loan.
You can also change to a lender with better customer service if you were having problems or could use a refinance to get cash out of your home by taking a cash-out refinance loan. A cash-out refinance loan means you borrow more than it costs to pay off your total mortgage balance so you have spare cash to do things such as pay off debt or make home improvements.
Downsides of Refinancing Your Mortgage
Unfortunately, there are also some potential downsides of taking out a mortgage refinance loan.
One big downside is that you have to pay closing costs up front for the refinance loan – and those could total several thousand dollars [Jonathan: This even gets scandalously expensive in Belgium as there are some additional registration fees, in most other EU countries this comes to about 500 EUR]. Coming up with the cash to pay these costs can be hard and, while you may be able to finance them, that would mean paying interest on them over time. And, if you sell your home soon after refinancing, the interest savings you incur in a short time may not be enough to make up for the up-front costs you paid.
Another downside is you may not qualify for a refinance loan – and may be out the money for the appraisal you paid for to find out you couldn’t borrow enough.
And, you could end up increasing the total cost you pay if you only qualify for a higher rate loan, if you take out a cash-out refinance loan, or if you stretch out your payment over a much longer time period. If you had just five years left to pay on your mortgage, for example, and you take out a new 30-year refinance loan, you’d be paying interest for 25 more years. Naturally, you would pay more over time, even if you got a lower rate.
The Application Process
If you decide to refinance your mortgage, you’ll need to shop around to find a lender. Ideally, you can get some rate quotes without a hard credit check that affects your credit. Once you decide on a refinance lender, you’ll need to submit information about your home and finances.
Lenders will consider your home value, the amount you need to borrow, other debts, credit score, income, and other financial information.
Read More: The advice I would give to first time home buyers
If you’re able to qualify, you can pay the closing costs, your old loan will be paid off by your new lender at closing, you’ll receive any extra cash if you took a cash-out refinance loan, and you’ll begin paying off the new loan.
Is Refinancing Right for You?
Ultimately, you’ll need to carefully consider pros and cons of refinancing and decide what’s best for your specific situation. Only by comparison shopping for loans and looking at potential savings can you decide if refinancing is a smart financial move.
I would like to thank Nate once again for this insightful article and hope this was helpful to you too or share with a friend who is currently considering to refinance his/her home.
Have you refinanced your mortgage lately? Did you have a good experience? Did you face unexpected costs? Let us know in the comment section below!
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4 thoughts on “Should you refinance your mortgage?”
We refinanced to get rid of PMI, but I’m kicking myself for automatically staying with the same lender. I should have shopped around to see if we could get a better rate elsewhere, just in case. We also rolled the costs of the refi into the mortgage, which was dumb but money was tight. Oh well, live and learn. I’m hoping to pay off the mortgage in the next six years, so a refinance isn’t (hopefully) in my future. Still, if interest rates go way, way down (they’d have to get pretty low) then I’d consider it.
Hey Abigail and thanks for stopping by. 6 years to go? That is nothing! 🙂 I wonder if it is even worth checking for refinancing options with such a short timeline. I’d rather let it be and focus on other financial opportunities (unless interest rates go way way down as you say).