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Whether you are looking to Lower your Monthly Payment, Pay Off your Mortgage Faster, Take Cash out of The Home, change from an ARM Loan to a Fixed, or Browse Current Mortgage Rates, let a Certified Mortgage Banker navigate the complexity of Lending Programs for you. With Rates still LOW, its the perfect time to find your long term solution and stabilize your life with either a First Time Home Purchase or Home Refinance.
Although refinancing can be highly beneficial in some cases, it may not be right in every situation. In some cases, you may be better off waiting a while to refinance. This guide will explore the most important aspects to help you decide.
What Are Common Reasons for Refinancing?
People usually have one or more reasons for refinancing a property, and these are some examples:
- Getting a lower interest rate.
- Switching to a fixed interest rate.
- Arranging lower monthly payments.
- Getting a cash sum.
- Getting away from mortgage insurance.
The last point applies mostly to FHA loans. In many cases, FHA requires mortgage insurance for a longer time than other lenders. This is true even if you have built significant equity.
A lower interest rate may not always be possible. For example, you may get a better rate if your credit score has improved since your initial loan started. Alternately, I may not get a better rate if my credit score is the same or if it is worse than it was when I applied for my original mortgage.
When Is a Good Time for a Home Refinance?
As a rule, there are several factors that may determine when the right time is to refinance. These are the main factors:
- You have enough equity that you will not pay mortgage insurance with refinancing.
- Your credit score has improved considerably.
- Values have risen, you have a reasonable amount of equity and you need cash.
- You need to lower your monthly payment.
- Average interest rates are significantly lower than they were when you applied for your original mortgage.
In some instances, one favorable factor may be outweighed by one or more factors that have not improved. For example, imagine that average interest rates have dropped from 4.5% to 4.2%. My current mortgage interest rate is 4.5%. If my credit got worse since I applied for my mortgage, I may not get a lower interest rate if I apply for refinancing.
Imagine another scenario. You have been paying your mortgage for 10 years and are facing hard times. You need cash and want to lower your monthly payments. If average interest rates are about the same as when you applied for your first mortgage, you may have to choose between the cash or lower payments. If you cash out the equity on your home, it is like starting over. If you do not take the cash and have good credit, you will likely have lower payments if you are refinancing only the balance that you still owe.
What Are the Types of Refinancing?
There are a few main types of refinancing. In some cases, the type of refinancing that you qualify for or prefer may determine if you decide to sign a new loan. It is important to understand how each choice works.
Streamline refinancing uses the original mortgage paperwork, which makes it easier to complete the process faster.
This option is for FHA mortgages. According to the FHA, it was introduced to simplify the process of refinancing. These are some of the most important points to know about streamline refinancing:
- It shortens the process from a few months to a few weeks.
- Since the original appraisal can be used, it may be the only option for you if you have an underwater mortgage.
- After 180 days of owning a home, you may qualify without the need for credit verification.
- Although the fees for streamline refinancing on VA loans can be high, disabled veterans may qualify for the fees to be waived.
Overall, streamline refinancing is a good way to save money and time. Be sure you are current on your payments when you seek this option. If you are delinquent on your mortgage, you cannot qualify.
Rate and Term Refinancing
If you want a home refinance to change the rate or the term, this is probably the type of structure that you are seeking.
The good news is that there are also options if you want to change both the rate and the term of your existing mortgage. In comparison with cash-out refinancing, the interest rate with this type is usually lower. These are some important points about rate and term refinancing:
- The rate or term can be changed without advancing new money.
- If your credit has been improving, you are more likely to get a lower rate.
- The factor that supports this type of refinancing the most is a drop in market interest rates.
There are several scenarios that make this option favorable. For example, imagine that you want to pay off your loan faster after you got a promotion and a pay raise. You may choose refinancing for an adjustable rate that is lower and a shorter term if your credit has improved.
In another scenario, imagine that I am facing financial difficulties and want to switch to a fixed rate. My current mortgage has an adjustable rate and a shorter term. If my credit is good, I may be approved for a longer term and a fixed rate, which will lower my monthly payments.
In this type of refinancing, you need some equity in your home to qualify and take a cash sum based on that.
Also, an appraisal is needed. The appraiser determines the current market value of the home. Your lender subtracts what you still owe on your mortgage. If you have a second mortgage, that is also considered. Lenders will usually offer you a percentage of your equity.
Although most offer about 80%, it can vary between 70% and 90% with different lenders. For example, imagine that my home is worth $500,000 right now. If my mortgage balance is $300,000, I have $200,000 in equity. If my lender offers 80% of that to me, I can take up to $160,000 as a cash payment. These are some important points to consider about cash-out refinancing:
- A new mortgage that reflects your old balance and cash equity payment is created.
- Since the cash payment is not income, it is not taxed like income.
- If your equity is 20% or lower, you will typically pay a higher interest rate than you would if your equity percentage was higher.
Although this is an ideal type of refinancing if you need cash, it is not always beneficial. For example, imagine that I am considering refinancing, and I have excellent credit. I have 18% equity in my home and find a lender that will offer me refinancing. Since my equity is on the lower end, I am offered a higher interest rate than what I currently have. I discover that the associated costs are not worth the modest cash payment and a higher rate, which leads me to decide to wait until I build more equity.
In another scenario, this option may be good. Imagine that you took on a mortgage when rates were higher and home values were lower. You discover that the new rate you qualify for is a little less than what you are paying now, and you realize that your home’s value has increased significantly. If you need a large sum of cash to make improvements to your home, cash-out refinancing would be favorable for you.
Many people use cash-out refinancing to pay for home improvements. Since you are putting the money back into the property in another way, it can be a beneficial choice. However, you can use the funds for tuition, medical expenses or any other major expenses. In many cases, people qualify for lower rates than what they would be offered for personal loans or other forms of unsecured financing.
What Are the Requirements for Refinancing?
Some lenders may have their own special requirements for certain issues.
For example, as you learned earlier, I would need to be current on my FHA loan if I want to apply for streamline refinancing. Also, if you want cash-out refinancing, you would need enough equity. These are some important topics to consider.
As a rule, you need good credit for approval with conventional lenders.
With FHA, the minimum requirement is a credit score of 580. If you work with an FHA-insured lender instead, the score requirements may jump to 600 or 620. As a rule, to qualify for a good rate from a conventional lender, you need a credit score of 740 or higher. Although lower scores may be approved, an unfavorable interest rate may accompany the approval.
In most instances, lenders have maximum debt-to-income ratio allowances between 40% and 50%.
Most conventional lenders have a maximum of 43%. FHA and other government programs may have higher limits. This means that if I want to apply with a commercial lender, I need to make sure that my monthly debt obligations do not exceed 43% of my monthly income.
The fees for refinancing depend on the type you choose and the lender. Depending on what you select, you may pay some of the following types of costs:
- Credit fees
- Application fees
- Appraisal fees
- Legal fees
- Lender fees
- Escrow and title fees
If you are considering a loan, be sure to factor in the fees to see if refinancing is worthwhile.
Am I Ready for Refinancing?
Now that you understand your choices, it is important to determine if you are ready for the commitment. To help guide you, these are some questions to ask yourself:
- Do I need to lower my payment amount, pay off my mortgage sooner or get cash?
- Will my lender require mortgage insurance?
- Are the closing costs and fees worth it and affordable?
- How much will I save or lose over time for my desired option?
- Are there any penalties for a payoff?
- If I need a new appraisal, will my home be worth more or less?
- Do I have good credit, a reasonable DTI ratio and adequate equity?
From these points, pay special attention to mortgage insurance. It can be a financial burden, and lenders often require it if you have a lower amount of equity for cash-out refinancing. Mortgage insurance may also be required if your home’s value decreased or if you have not built much equity. Additionally, be aware that no-cost refinancing options are not really loans that are free of extra costs.
Only you can decide if refinancing will work for you.
Be sure that you understand the extent of all costs and how much you will save or lose in the end. Be sure that you can afford a home refinance. By doing thorough research and addressing each point in this guide, you can determine if refinancing is a smart choice for you now or if you should wait. Are you ready for refinancing now? Please leave us a comment about what type you prefer and why.