Some Potential Reasons to Refinance
Typically, the reason that people look to refinance their mortgages is to lower their monthly payments. However, at first blush, people don’t necessarily pay attention to the fact that they could be paying more in interest down the road. If interest rates are lower, that’s great. However, keep in mind that you may be opening up another full 30-year term loan, simply to knock down the monthly cost. You may end up paying more in the long term because you are essentially restarting the loan process.
Remember, that while refinancing sounds good on paper, until you run the real math, and fully understand all the costs involved and the overall outcome, it is not recommended to follow this option.
Measure Where You Are At, And Where You Will be Afterwards
If you refinance your mortgage with a full 30-year loan, you might end up paying more in interest. This is because loans are typically frontloaded with the interest payment. This means essentially that you have paid more interest per payment by the time you get to 15 years into the loan, as compared to only three years. The longer you been paying off the mortgage, the more each of those payments is going towards paying off the principal balance. Unfortunately, most people don’t pay attention to this and only focus on the lower monthly expense.
By comparing what you paid so far in interest and what you will still pay on your current loan versus what the refinance situation will cost, this will give you a clear perspective of your total loan costs for either financial package.
One of the most effective ways to refinance is to reduce the term of the loan and to get a lower interest rate. This will significantly help with the total amount of interest you will pay over the life of the mortgage. This isn’t always possible, but it is certainly the best option.
So, You’ve Decided to Refinance Your Mortgage
You have decided to refinance your mortgage and have ran the numbers to understand that it can actually work in your favor. If that’s the case, you should ask yourself some of the following questions:
What is my goal? You need to understand what your goal is by refinancing your mortgage. You need to be refinancing for the right reason; this means that you should aim to shorten your mortgage length if possible, or at the very least, maintain the same amount of time, while lowering your interest rate. This, by default, should lower the monthly payment.
What’s my credit score? Your credit score plays a vital role in the costs of the refinancing. If your credit score is not very good, and the new terms are less than favorable, you need to rethink the refinancing option.
Make sure you know what the house is actually worth. Do your research and check your neighborhood for recent sales of homes like yours. You can search for “comps” in the area on various governmental and real estate sites.
Make sure you shop around for a better rate. You don’t necessarily want to take the first refinance package offered. You would be surprised at how much difference there can be between companies. Make sure that you do not shop around for more than two weeks though, as credit companies will start to negatively mark your credit score from all of the credit inquiries.
Believe it or not, you will need cash. Don’t fall into the trap of paying closing costs or other expenses within the refinance agreement. You will simply pay more as you will be paying interest on those charges. Make sure that you have the money to refinance the loan and to pay all of these costs in one payment, ahead of the new loan period.
Make sure you lock in your rate. You have to decide when you want to lock in your mortgage refinance rate with the lender, which will allow your new loan to maintain that rate, prior to closing. There is normally a specific period of time that they will allow so make sure to check this with the lender.
Before you submit your application to refinance your mortgage, take the time to determine whether or not you will qualify, since applying for a refinance will impact your credit score. If there is a chance you will not qualify, you may want to wait until you have improved your credit score, the value of your home has increased, or your debt to income ratio declines.
If you will qualify for refinancing, don’t forget to review your financial situation. Do not focus on simply reducing your monthly payments because you could end up missing an important component of the new loan you agreeing to.