Your Mortgage Refinancing Guide: When Does it Make Sense?

Investing in a home doesn’t just mean you get a place to live. It’s an asset that has the potential to keep giving back to you for as long as you live there.  

Whether you’re looking to lower your interest rate and monthly payments or want to tap into your home equity to get cash at closing, you might be able to do so with a refinance. But before you dive into the refinancing process, make sure you learn more about your options and whether or not it may work for you.

What is a Mortgage Refinance and How Does it Work?

Refinancing involves taking out a new mortgage to replace your current one, often with more favorable terms. The new mortgage is used to pay off the balance of your current one, meaning you’ll still have only one mortgage to pay.  

The process for refinancing your current mortgage is much like getting a purchase mortgage in which you’d fill out an application, submit any required documentation, go through underwriting, pay for any costs or fees and close on your new loan.

The Costs of Refinancing Your Mortgage

Although many borrowers opt to refinance their mortgage for more financial savings, going through the process does have a cost. The actual cost depends on the lender you choose to work with, your own financial standing and where you live. However, you can expect to spend between 3 to 6 percent of your loan principal.  

These costs may include the following: 

• Loan origination fee 

• Home appraisal fees 

• Credit report fees 

• Attorney fees 

• Underwriting fees 

• And more 

To understand the full scope of costs for your loan, make sure you speak with your lender about these possible fees before you get to closing day.

Types of Refinances

There are many types of mortgage refinances available to eligible borrowers. Offerings can vary between lenders so if you know your goals for refinancing, it may help to find a lender that offers that specific type of refinance.  

Here are some of the most popular types:

Cash-Out Refinance

If you’ve built up enough equity in your home, you may be able to convert it into cash with a cash-out refinance. With this type of refinance, you would take out a larger mortgage to pay off your current one and receive the difference in one lump sum.  

Many borrowers use this type of loan to put value back into their home with home remodeling projects. However, you can generally use the funds for anything you want, including consolidating your debt or making a large purchase.

Rate-and-Term Refinance

One of the most common reasons that homeowners refinance is to change their loan terms. If interest rates have dropped since you’ve gotten a loan, you may want to consider refinancing for a lower interest rate and potentially lower monthly payments. You may even be able to refinance for a different loan term, depending on your financial goals.

Streamline Refinance

Streamline refinances may be available to those who already have a Federal Housing Administration (FHA) insured mortgage. This type of refinance was designed to make the refinancing process as quick as possible by limiting required documentation and paperwork.

Pros and Cons of Refinancing

Pros

Favorable Terms

Borrowers typically choose to refinance their mortgage for more favorable terms, including a potentially lower interest rate to decrease their monthly payments or shorter loan term to possibly save money on interest paid.

Convert Your Loan

If you have an adjustable-rate mortgage and want more predictable monthly payments, you may be able to convert to a fixed-rate mortgage. You may even be able to save some money this way.

Acquire Funds

Opting for a cash-out refinance may allow you to receive funds at closing to use for any expenses you have, including home remodeling projects, college tuition or a small business.

Cons

May Pay More in Closing Costs

Before you start the refinancing process, you may need to do some math first. It may not make sense to refinance if you end up paying more in closing costs than the amount you could potentially save.

Could Lower Your Home Equity

Opting for a cash-out refinance may decrease the equity you have in your home, so it’s imperative you understand what this could mean for your long-term financial goals.

Interest Rates May Drop After You Close

There may be the potential that mortgage interest rates drop after you close on your refinance, and you could miss out on the lowest possible interest rate you could get.

When Should You Consider Refinancing?

No matter your reason for refinancing your mortgage, it’s important to know when it could work for you. If you know you’re staying in your home for a long time, it may make sense to extend your loan term or use your home equity to put value back into it. You may also want to pay attention to the financial climate to see if you can secure a lower interest rate than your current one. It could also be worth it to explore refinancing with a professional lender who can help you assess your specific situation.