When interest rates plummet, most homeowners grapple with the question of whether to refinance their mortgage or stick with the original one? Refinancing a home is when you get a new mortgage to replace the current one. It allows the homeowner to get better interest terms and rates. However, if you are considering refinancing your home, you need to take some factors into account to avoid falling into financial pitfalls.
When it Makes Sense to Refinance
Most people start to consider a refinance when they notice mortgage rates tumbling below their current loan rate. If you calculate that you can cut your interest by at least 1%, then it’s a good idea to refinance. However, there are also other good reasons to refinance. Some of them include:
- you want to pay off your loan quicker
- To change from an adjustable-rate mortgage to a fixed-rate mortgage
- To tap into home equity to raise money
What You Need to Know Before You Refinance Your Mortgage
Before you decide to refinance your mortgage, there are some key considerations you need to make. First, know your home’s equity. If your home hasn’t gained any value or you have low equity, then traditional lenders are unlikely to refinance it. With 20% equity, it becomes easier to qualify for a new loan.
Your credit score can also affect your refinancing options. Even good credit doesn’t guarantee the lowest interest rate. To qualify for the lowest mortgage interest rate, target a credit score of 720 or higher, and a debt to income ratio of 36% or less. If you have considerable debts, you may have to settle them before applying.
The period you plan to stay in your home matters when it comes to refinancing. If you are planning to move out in a few years, it makes little sense to pay thousands of dollars in closing costs, just to lock into a lower rate. If you are planning to stay in your home permanently, a 15-year loan rather than a 30-year loan will be more beneficial if you can afford it. While the monthly payments will be larger, you will have saved more interest in total.
The Cost of Refinancing
Typically, refinancing costs between 3% and 6% of the total loan amount. However, there are different methods you can use to slash these costs. With enough equity, you can transfer the costs into your new loan, thereby increasing the principal. Some lenders have a no-cost refinancing policy, although their interest rate is slightly higher in order to recoup the closing costs. Still, you can negotiate with your lender and get a reduction on the refinancing fees.
Find Out How Much You Could Save
To determine how much you could save, first look at your current loan documents and see how much interest you are paying. Now, look at the latest mortgage refinance interest rates and calculate the difference. You can also use a closing cost calculator to approximate the fees of your refinance. You can also use some finance tools or the help of a trustworthy expert to discover how much you could save.
Currently, rates are at a historic low. Although this looks favorable, every homeowner needs to first consider his/her current situation before making a decision. Once you do your math and the numbers look promising, finding a lender that is a good fit for your financial situation.