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Refinancing your mortgage means getting a new home loan to replace an existing one. You typically follow the same steps you did for your purchase mortgage, except your new loan pays off your old loan.
A mortgage refinance can help you save money by:
But before you jump in, make sure you’ve set yourself up for a successful refinance by going in with a goal and a plan.
A surefire way to find the best refinance rate is to shop around. Choose three to five mortgage lenders and gather quotes to compare refinance rates. Comparison-shopping with multiple lenders may save you thousands in interest costs over your repayment term.
Be sure you also compare the estimated costs and fees with each lender, which can be found on the loan estimate you receive after applying for a refinance. A low rate may sound good at first, but if it comes with high fees it may not actually offer you the best value.
A useful rule of thumb is that if a refinance can lower your interest rate by 1% or more, it likely makes good financial sense. However, the best way to determine for sure whether a refinance is in your best interest is to calculate your break-even point. To do this, just divide your total closing costs by your estimated monthly savings. The result is the number of months it will take you to benefit from the refinance savings.
For example, if a refinance saves you $150 on your monthly payment but costs you $5,000 in fees, the break-even point would be about 33 months, or just under three years ($5,000/$150 = 33.33). As long as you plan to stay in your home for at least three years, the refinance saves you money.
The Consumer Financial Protection Bureau (CFPB) recommends that you only refinance if you can “break even” within two years. However, as long as you’re planning to live in your home beyond the break-even point, a refinance won’t be detrimental to your finances. The longer you retain the home after refinancing, the more savings you’ll see.
With interest rates expected to remain high and continue to rise throughout 2022, it may not be the best time to refinance if you’re looking for a lower rate. However, there are other financially sound reasons to refinance now, including:
Wondering how the mortgage refinance process works? It’s easy to get overwhelmed by all of the details involved, but follow these six steps and you’ll be well on your way:
Crunch the numbers and receive a personalized monthly payment breakdown.
Because refinance loans require a credit check, the inquiry may drop your credit score by up to five points. When you’re mortgage shopping, try to have your credit run within a 14-day period to avoid a bigger drop from multiple inquiries.
Conventional loan guidelines allow you to refinance at any time after you close, as long as you can prove there’s some financial benefit and aren’t taking cash out. Some government-backed refinance programs require proof you’ve made payments on your current mortgage for at least seven months. If you’re taking cash out, the seasoning period may be up to a year if you want to use your home’s current market value.
You typically need at least 3% equity to refinance your mortgage, unless you’re eligible for a streamline refinance program through the FHA, VA or USDA. There are also programs available for homeowners to refinance an underwater home, meaning their outstanding mortgage balance is higher than their home’s value.
The most notable risks that come with mortgage refinancing include:
It takes on average 45 days to refinance a home, according to ICE Mortgage Technology’s most recent Origination Insight Report. Your lender might take more or less time to close a refinance, depending on how much business they have and whether they use a digital mortgage application process.
The total cost to refinance is typically 2% to 6% of your loan amount and is made up of closing costs and fees. The average American borrower paid $2,375 in costs and fees when refinancing a single-family home in 2021, according to a ClosingCorp report. Don’t be fooled by advertisements for a no-closing-cost refinance. These aren’t “free” refinances — the lender covers your upfront costs at closing by charging you a higher interest rate or increasing your loan amount.
While it’s more difficult to refinance a mortgage with bad credit, it’s not impossible. For example, you may qualify to refinance an FHA loan with a credit score as low as 500, provided you have at least 10% home equity. There’s no minimum credit score required for a VA refinance, though many lenders require a 620 minimum.
Mortgage refinance rates tend to mirror purchase mortgage rates. However, refinance rates differ from lender to lender, which is why it’s important to shop around and find a rate that’s competitive enough to replace your current mortgage rate.
Mortgage points are upfront fees you can pay to reduce your mortgage interest rate in set increments. If you’d like to save on interest over the long haul and shave a few dollars off your monthly payment amount, it may make sense to pay for mortgage points. Be mindful that each point costs up to 1% of your loan amount. On a $250,000 mortgage, one point would cost you $2,500 at the closing table.