Refinancing a loan under the right circumstances might be a smart way to pay off your debt. Your home is a huge investment and refinancing could help you leverage the asset. You could take cash out of your home’s equity for home improvement or other projects or reduce your repayment period. In this article, we will discuss how mortgage refinansiering works and when you should consider it.
What is Mortgage Refinancing?
Mortgage refinancing is getting a new loan to replace an existing home loan. Usually, this happens when you can find a lender that offers a lower interest rate than what your current lender offers. In the end, you are left with a different lender(or sometimes the same lender), monthly payment, interest rate, and loan term.
How Does a Mortage Refinance Work?
The process of home refinansiere (refinance) is not very complicated. However, the timeline for completion is between 30 to 45 days, so you may want to have an early start. It involves the following steps:
- Rate locking
Let’s take a deep look at each step.
In the application phase, you have to decide on the type of mortgage refinance you want, and then look for a lender. The lender will request certain documents such as bank statements, pay stubs, and tax returns. They will also evaluate your net worth and credit, which means you, must declare your assets and liabilities.
If you are self-employed, you should be able to provide documents to back your claims such as contract papers and income statements, and tax returns for at least 2 years. If you are married, the lender may request your partner’s documents.
Because interest rates fluctuate, rate locking is important. It ensures that you secure a loan with the current rate before it changes. You can lock your rate for about 2 weeks to 2 months, depending on the lender and the loan amount.
Note that if you choose a short-term lock, you will likely get a lower interest rate because the lender won’t have to take a lot of risk for you. Also, if your loan doesn’t get approved before the lock period ends, you will pay extra to lock it again.
During underwriting, the lender verifies the documents you submitted with your application to be sure they are not forged. They also assess your home documents and the home’s value. This stage determines how much credit you qualify for, especially if you want to cash out or reduce your mortgage payment.
Before buying a property, an inspector comes to assess the structure and all its features to ensure you won’t have problems that will jeopardize your life in the future. This also applies when you want to refinance your home.
Ensure you make the necessary repairs and improvements before the appraisal and let the inspector know what you did since you purchased the property. The report of the inspection will determine how much your home is worth in the current real estate market.
If the value is higher or equal to the amount you applied for, the lender will contact you for the next step. But if the value is lower, you can opt for a cash-in. That is, bringing more cash to make up for the difference. You could also consider reducing the amount or end the entire process and walk away.
This is the last step in the mortgage refinancing process. After meeting the requirements for the loan, the lender will hand you a disclosure showing the loan amount you will receive. Ensure you read the document thoroughly before appending your signature. After closing, you have up to 3 days to cancel or lock in the rate.
Benefits of Mortgage Refinansiering
Below are some benefits of refinancing your home loan.
Reset to a Fixed-Rate Loan
If your previous loan was an adjustable or variable one, refinansiering can get you a fixed-rate loan. This implies that any change in the interest rate won’t affect your debt. This gives you some form of stability as you can confidently make plans for your monthly income.
Get Rid of Private Mortgage Insurance
When taking a home loan, your down payment should be up to 20 percent. If it is less, you will pay private mortgage insurance (PMI). But if your monthly payments and the current value of your home increase your equity to the benchmark, your lender can remove the PMI. However, if the PMI remains, you can refinance into another loan that won’t require it. This will save you more money.
Cash Out to Access More Funds
With more than 20% equity in your property, you can request cash-out refinansiering. In this case, you apply for a new loan with a higher amount, offset the old debt, and then collect the difference. You can use the money to fund another project such as home improvement or to offset a high-interest debt.
Pay Faster, Pay Less
Refinancing your home loan into one that has a lower interest rate and a shorter repayment period saves you a lot of money. For instance, if you have a 30-year mortgage, you can reduce it to 15 years. The more you spend on a mortgage, the less money you have to save for retirement or an emergency.
Risks of Mortgage Refinansiering
Before you decide to refinance a home loan, it is important to know the risks so you can prepare for them.
Refinancing is not free. It comes with certain costs like application fees, processing fees, appraisal, insurance, and taxes. The lender may charge you all these upfront or wait till closing. Either way, ensure you negotiate the costs to avoid paying more in the future. This is because each cost comes with interest in the long run.
Beware of lenders who do not present closing costs. They may have plans of inflating their rates later. You may want to check out https://www.investopedia.com/ to learn how to negotiate closing costs.
High Interest After Extension
While you think you are buying more time by refinancing, it is actually increasing the amount of money you pay. Don’t be carried away by a low-interest rate. The faster you pay your debt, the more money you will save. In some cases, if you reduce your rate and extend the repayment period, you will still pay the same amount you’ve been paying or even more.
For instance, you took a mortgage of $100,000 at an interest rate of 30% for 30 years. In this case, your monthly payment will be $568. If you refinance to a rate of 3.5%, your mortgage will reduce to 15 years but you will end up paying $715 per month.
Compare the cost of your current loan and the new plan to see what works. Also, bear in mind that you will pay between 3 – 6% of your current principal. Therefore, if you won’t save any money in the process, don’t go for it.
Inability to Relocate
The closing cost may be higher than your savings if you relocate between 1 to 3 years after refinancing. This thought may deter you from moving. Therefore, if you foresee that your home will become too small for your growing family or have plans of moving, refinancing might be a waste of time and resources. Hence, refinancing is best for homeowners who intend to live in their homes for a long time.
Most lenders charge a fee for early repayment. So, if you plan to take a new loan, find out whether your lender will penalize you. Weigh your options; if the cost, in addition to other refinancing costs, will make it expensive, you may want to stick to your old debt.
Loss of Protection
In some locations, the government offers a measure of protection such that if you can’t pay back the loan, the lender can’t sue you. The moment you refinance the mortgage, you lose that protection. As a result, the lender will seize your property and still mandate you to complete your payment. Unless the new loan offers the same kind of protection, refinancing may not be a good idea.
Refinansiering is a smart move if it not only reduces your interest rate but also shortens your repayment period. If it helps you to build equity faster, you are in luck! Ensure you consider your current financial position, the cost of refinancing, and the risks involved.
Remember that the whole idea is for you to save money. So, cashing out of your home equity may not help you to achieve that aim.