If you’ve had your home for a while, you’ve invested a lot of money into it.
The house may also have appreciated through the years.
This can allow you the opportunity to refinance your mortgage.
You can do this by cashing out your home’s equity for home improvements, investments, bills, or simply refinancing to lower your interest rate and monthly mortgage payment.
What does it Mean to Refinance?
When you refinance your home, you borrow a new mortgage to pay off your existing mortgage.
The new loan may have different terms and may be from a different lender. You aren’t obligated to stay with the same lender.
You can refinance your mortgage into any program if you qualify for the loan.
This may include a rate/term or cash-out refinance. The key is to ensure the new terms are beneficial for you financially.
Keep in mind when you refinance, you restart your term.
So, for example, if you have a 30-year mortgage but have made payments for ten years, your current mortgage will only have 20 years remaining of payments.
But when you refinance into another 30-year mortgage, you start your mortgage term over again.
Example – these numbers are hypothetical
Bought a house for $500,000, with a 30-year fixed loan.
You’ve made ten years of payments, which means you have 20 years left of mortgage payments and a loan balance of $425,000.
If you do a 30-year rate and term refinance – You’ll have a new loan balance of $425,000 and a new loan term of 30 years.
So instead of paying the loan off within 20 years, you start over with another 30-year loan term.
But the new loan will most likely have a much lower monthly payment.
When refinancing, consider the program and term that works best for your current and future finances.
How Does Refinancing Work?
Refinancing your mortgage works a lot like when you bought your home.
First, you must prove you can afford the loan by providing proof of your credit score, income, and assets.
Lenders will order an appraisal on the home to ensure the home is worth enough money to support the loan amount.
They’ll also do a title search to ensure there aren’t any new liens on the property.
Steps to Refinance
To refinance your mortgage, use these steps:
- Complete an application
This is the same application you completed when you bought your home. You’ll disclose your personal identifying information, income, assets, and liabilities. Lenders use this information to pull your credit and determine which loan program you qualify for.
2. Provide documentation
Next, lenders need documentation to support the information in your application. Most commonly, this includes:
- Paystubs for the last 30 days
- W-2s from all jobs for the last two years
- Tax returns for the last two years if you’re self-employed or get paid mostly commission
- Bank statements for the last two months
Mortgage underwriters will review the information and decide if they need further documentation to determine if you’re eligible.
For example, suppose your paystubs show that you pay alimony or child support, or your bank statements show large deposits. In that case, underwriters may need more information to determine your eligibility for the loan.
3. Close on your loan
After the underwriter determines you’re eligible for a mortgage, you’ll close on your loan.
Like when you bought your home, this means signing a new mortgage deed, note, and other documentation with a notary.
4. Make payments to your new lender
Once you close your loan, you’ll make payments to your new lender, usually 30 to 45 days after the closing.
Items that mortgage underwriters will analyze during a refinance
Credit score and credit history
The minimum credit score needed for a mortgage approval varies depending on the lender you choose and the type of mortgage you seek.
The minimum credit score for a conventional mortgage or VA loan is typically about 620; for a jumbo loan, it’s usually 640.
You can get an FHA loan with a credit score as low as 580.
Do you pay your bills on time, or do you constantly have lates or collections?
Your credit history and credit score assess your creditworthiness and financial responsibility.
For example: If you have a habit of not making your mortgage payment, that is a sign that you’ll do the same with a new mortgage.
This would be problematic and most likely would result in a mortgage denial.
Bankruptcies, delinquent accounts, accounts in collections, charge-offs, and accounts settled for less than the amount owed are all warning signs you may be a risk.
Read: How to Qualify for a Conventional Loan After Bankruptcy
Debt-to-income (DTI) ratio
Lenders will review the percentage of your monthly income that goes to monthly debts to assess your ability to repay the loan.
For example, it may be challenging to secure a loan if your housing payment is 40% or more of your gross monthly income (28% or more if you’re applying for a USDA loan).
Read: Debt-to-Income Ratio – How it’s calculated
An appraisal will be ordered to make sure the value of the home is acceptable.
If the appraised value comes in lower than the loan amount requested, than you’ll need to adjust the loan amount.
Lenders won’t lend money to you if the loan amount requested is more than the appraised value.
The Types of Refinance Programs
Unlike when you bought your home, there are different refinance programs to consider:
- Rate/term refinance – Choose this option if you want to get a better rate or term for your mortgage. With a rate/term refinance, you only refinance the current balance; you don’t take any extra cash out of the home.
The rate/term refinance is the easiest because you aren’t taking equity out of the home. You just want a better rate or term.
- Cash-out refinance – Choose this option if you know you have equity in your home and want to use it for other purposes. For example, if you want to consolidate your consumer debt, you can borrow some of your home’s equity to pay off credit cards, or a home improvement project.
You can only use a cash-out refinance if your home’s value exceeds what you currently owe.
Most borrowers must leave 20% of their home equity untouched.
For example, if your home is worth $350,000 and you have a current mortgage of $150,000. Then, you can borrow up to an additional $130,000.
$350,000 x .80 = $280,000 (20% equity)
$280,000 – $150,000 = $130,000
Refinance programs that Coole Home offers:
Pros and Cons of Refinancing your Home
It is important to understand the pros and cons of refinancing your home to decide if it’s right for you.
- You might save money if you can get a lower rate or shorter term
- You can change your loan type, for example, refinancing out of an adjustable rate loan into a fixed rate loan
- You can use your home’s equity and put it to better use
Read: What is a fixed rate mortgage?
- You might pay more interest if you restart your loan term
- Your payment could increase if you cash out your home’s equity
- You might not qualify if you haven’t kept up with your credit scores or you have excessive debt
Tips for Refinancing your Home
To improve your chances of refinancing your home, here are some top tips:
- Check and improve your credit score
Pull your free credit reports and see if there are any factors you should fix, such as late payments, high credit card balances, or collections.
- Keep your debts low
The fewer debts you have, the easier it is to get approved. On the other hand, if you have a high amount of debt compared to your gross monthly income, it could hurt your chances of approval.
- Talk to a loan officer
A loan officers job is to help you with the loan process. if you are confused, and need more help, a loan officer would be a good person to connect with.
Read: How a Mortgage Loan Officer can Help you from Start to Finish
Refinancing your home can be a great way to help your financial situation if you have equity in your home or can get a better rate/term.
If you’re considering refinancing, contact us today to see our options.
We’ll help you understand the different loan programs, rates, and terms so you can see the big financial picture.
Are you ready to apply? Start the process by completing the form below.