Refinancing your mortgage can be a smart financial move, especially if interest rates have dropped since you first purchased your home. In many cases, you can lower your monthly payments and reduce your overall debt. Even if they haven’t dropped, refinancing sometimes simply makes more financial sense depending upon your current situation.
As you seek to refinance your mortgage loan, it’s important to explore your options and ask questions. Here are five questions to consider before finalizing a new loan agreement.
1. What is Needed to Qualify for Refinancing?
All lenders are different and set their own criteria to be met. Generally, they’ll look at your credit score, debt-to-income (DTI) ratio, and your amount of home equity. The specifics required for each of these criteria may vary from lender to lender.
2. What Types of Refinancing are Offered?
There are different types of refinancing, the two most common are rate-and-term refinances and cash-out refinance.
With rate-and-term-refinances loans, you can adjust the rate and/or term of your mortgage loan to more favorable terms. If rates have dropped, you can reduce the amount of interest you’ll pay over the life of your mortgage. You can also adjust the number of years you have to pay, shortening or lengthening the life of your loan.
Cash-out refinances allow you to accept a higher principal balance in exchange for the opportunity to cash out of your home equity. For example, if you owe $150,000 on your mortgage but also have $25,000 in credit card debt, you can borrow $175,000 and be handed $25,000 in cash to pay off that debt.
3. What’s the Difference Between APR and Interest Rate?
APR and interest rates are often thought to be the same, but they aren’t the same. An APR, which stands for “annual percentage rate,” is your interest rate plus closing costs and any applicable fees associated with the mortgage. Interest rate is the amount of interest you pay on the principal balance and doesn’t reflect fees or other charges connected to the loan.
4. Is a Rate Lock Available?
Mortgage rates change daily and even small movement can equate to thousands of dollars, depending upon the market. A rate lock enables you to secure your interest rate and keep it until your lender closes your new loan. If your lender does offer this option, be sure to ask how long the lock is and if a lock is free. Some lenders will offer a free lock, and then you can purchase an extension if refinancing your mortgage takes longer than anticipated.
5. Are Closing Costs Affordable?
Much like your original loan, refinancing your mortgage comes with closing costs. How much you’ll pay will depend on several factors, such as where you live and the lender you’ve selected. On average, you can expect to pay between 2% and 5% of the total value of your new loan. When determining if refinancing is worth the costs, you’ll find there is no one-size-fits-all answer. It will truly depend upon individual circumstances.
To determine if refinancing is a smart financial move, do straightforward math. Variables include how much you’ll save on refinancing vs. what you’re paying now, how long you plan to own the home, and how many years it’ll take you to pay off the closing costs. The shorter the time frame, the better. Some lenders advertise low-cost or no-cost refinancing, so be sure to learn what the terms require. You may have to pay closing costs upfront or pay a slightly higher interest rate but in either scenario, you still might come out ahead.
Refinancing your mortgage is often a smart financial move. Before signing on the dotted line, carefully look at the terms and see how much you can save over the life of your loan. Don’t be afraid to ask lenders you’re considering plenty of questions so you can make an educated decision.
