Winning Steps to Refinancing Your Home

Step 1: What’s Your Credit Score?

All lenders will assess your ability to repay any loan you receive. The most important personal information they will look at is your income, your current monthly expenses, and your history of timely repayment of loans. The most common way your credit history is assessed by lenders is pulling a paid credit report from one of three credit bureaus – TransUnion, Experian, and Equifax.

These three credit bureaus compile your credit history and calculate your credit score, based on your credit history. Credit scores range from 300 to 850, with the higher number representing a stronger credit history. Lower scores represent poorer credit histories, typically due to late and unpaid bills.
All lenders will review your credit score and credit history in assessing the risk in loaning money to you. A poor credit history or lower credit score doesn’t always mean you won’t be able to get credit, but will typically mean that you will pay a higher interest rate, which reflects the lender’s assessment that you represent a higher risk of default than someone with a better credit history or lower credit score.

A great free resource for consumers is a website sponsored by the three credit bureaus – www.annualcreditreport.com. Once a year, you are entitled to get a report from this site that shows how your credit history has been recorded. While this report does not tell you your actual credit score, it does give you the opportunity to review the accuracy of your credit history on record, and to clear up any inaccuracies prior to applying for a loan. www.annualcreditreport.com provides a secure website to request a credit report, and provides your report via email, telephone and by mail. Once a year, you can also request a report from any of the three credit bureaus:
TransUnion.com
Experian.com
Equifax.com

Step 2: What Refinance Loan Meets Your Specific Needs?

Consumers choose to refinance their current mortgage for a variety of reasons. Common goals typically center on wanting to lower their monthly payments, pay less interest over the life of the loan, or “cash out” a portion of their home equity to pay short term expenses.

Because people refinance for different reasons, it’s important to assess which type of loan best meets your individual needs. Some things to consider:

1. What’s your refinancing goal?

When people are not looking to walk away with cash in hand, typically the refinanced loan will be for the current remaining balance on the existing loan. If your original mortgage was for $250,000, and your current balance is $200,000, in this case, you would be looking to refinance the $200,000 balance to achieve a specific goal, such as:

Lower interest rate
If interest rates for mortgages have decreased since you originally took out a loan, refinancing to secure a lower interest rate may make good financial sense for you. A lower interest rate will also translate to lower monthly payments.

Predictable monthly payments
If you elected an adjustable rate mortgage (A.R.M.) when you initially bought your home, and are now concerned about escalating rates at every reset period, you may be interested in transitioning to a fixed rate loan to ensure more stability for your monthly payments. This is a good solution if you are now in a position to afford higher monthly payments with the benefit of more predictability and stability in future mortgage payments.

Align loan terms to your current situation
If you have cleaned up your credit since first securing your mortgage loan, you may be in a position to qualify for a lower interest rate, based on your improved credit record. As mentioned earlier, all things being equal, a person with a better credit score and credit history will get a better interest rate than another consumer with a lower credit score and history.

Pay off loan more quickly
A job promotion, unexpected cash windfall, or other change in household income may motivate you to accelerate your loan payoff. Changing from a 30 year mortgage to a 15 year mortgage can dramatically accelerate your mortgage payoff schedule, allowing you to pay your mortgage in full much more quickly.
Whether this option makes sense depend on the terms of your current mortgage loan and your own self discipline. If your current loan allows prepayment of principal, and you are disciplined about making accelerated payments, paying off your current loan at a faster rate may be a better solution than refinancing
What makes sense for your family depends on terms of your current mortgage, current interest rates compared to your current mortgage, and your own personal self discipline.

Lower monthly payments
On the other hand, if your monthly household income has decreased recently, and you are struggling to make monthly mortgage payments, a change from a 15 year to 30 year mortgage may make sense if you can decrease your monthly payments to a more manageable amount. In this case, an assessment of the interest rate of your current mortgage compared to a refinancing mortgage interest rate will be important.

2. “Cash Out” Refinancing

Another category of consumer refinancing goals are those people who are looking to refinance and walk away with cash in hand. In this case, the refinanced loan will be larger than the current remaining balance on the existing loan. If your original loan was for $250,000, and your current balance is $200,000, in this case, you would be looking to refinance more than the $200,000 so you can pay off the first loan and walk away from the closing table with cash in hand for other purposes. You are encouraged to use this option responsibly. Common reasons consumers choose this option include:

Paying for a Major Expense
College expenses, remodeling, and major home repairs are common reasons people consider this type of loan.

Consolidate Monthly Bills
Some homeowners feel overwhelmed with credit card debt and high interest loans. Consolidated monthly bills into a single refinancing loan offers the benefits of lower interest rates, a single monthly bill, and tax deductible interest. You maximize your benefit from this consolidation when you also are disciplined about not continuing to accrue new debt from continued credit card use.

Is Refinancing the Answer?

Above, we discussed many reasons why people consider refinancing their current mortgage loan. The final assessment for any homeowner should be a balance of current short term financial needs, longer term financial goals, and an accurate assessment of personal discipline in responsibly managing large financial decisions.

Step 3: Do the Numbers Add Up?

If you have decided it makes sense to move forward with refinancing, and have a good idea of how you want to move forward, another calculation to consider is the financial break-even point for your refinancing.

Break Even Point

Securing a new mortgage requires upfront payment of loan fees and closing costs. While these costs can be rolled into monthly payments, they still should be assessed in terms of how long it will take for you to “recoup” these charges and start truly benefiting from a refinanced mortgage. It will typically take about 2 years to hit the breakeven point, where you have accounted for the upfront payments and start truly benefiting from the reduced interest on your current loan.

Example: If your current monthly mortgage payment is $2000 per month, and with refinancing, you are able to reduce your payment to $1700 (a savings of $300 per month), and you have $4000 in upfront loan fees and closing costs, it will take you 14 months ($300 x 14 = $4200) to recoup the upfront fees.

This calculation is somewhat simplistic. Your own situation will need to be assessed considering your individual tax situation, and whether or not you pay the upfront fees outright, or roll them into your monthly payments. Another consideration is whether or not you can cancel private mortgage insurance (PMI) when refinancing.

Comparing Lenders
Most consumers select a lender based on what lender offers the lowest interest rate. And this makes sense, because even a small difference in interest rates can make a huge difference in total payments over the life of the loan. The common expression of final interest rate is the annual percentage rate (A.P.R) which is the industry accepted standard for reporting an interest rate that can be compared from one vendor to another. Another reporting benchmark is a Good Faith Estimate from the lender. This estimate should provide a realistic assessment of all fees that will be incurred to secure the loan. You will also want to know if there are pre-payment penalties over the life of the loan.

Read the paperwork provided to you and ask questions! While the paperwork can be overwhelming, a refinanced mortgage is an important financial decision with long term implications.

Step 4: Securing the Loan

Because there are not the buyer/seller complications that go along with closing on a home, the refinancing process is typically much easier than when you initially bought your home. You will pay for an appraisal, and loan fees and closing costs, but the overall process is fairly straight forward. Make sure you have the opportunity to review the final paperwork before final signature.