With interest rates going under 3% for the first time in many years and knowing that they would not stay this low for a long period of time, it would only make sense to try and refinance your mortgage, sooner rather than later.
What is a mortgage refinance?
A mortgage refinance is when you decide to replace your original home loan with a new one. There are many reasons why you could decide to refinance your mortgage.
For many people, their number one goal is to reduce their interest rate, cut down on monthly payments, or simply tap into their equity.
We’ll go over all the reasons in more detail below.
How does mortgage refinancing work?
The concept is pretty easy to understand. Usually, when you decide to buy a house, you will have to take out a loan to pay for it.
With a refinance, you will also have to take out a loan but instead of money going to the original home sellers, you will instead use it to pay off the first original loan that you have made when you bought the house.
But you will have to qualify again for mortgage refinancing, and you will have to meet some requirements, just as you had to meet when you first took out the original mortgage.
Why & when should you refinance your mortgage
There are many reasons to refinance your mortgage, but they all differ based on your financial goals. So here are a few of them to consider to help you decide if mortgage refinancing is a good idea for you right now:
1. Obtain a reduced interest rate
When your goal is to pay less every month, you can refinance into a loan with a lower interest rate.
You never know what might happen in the future, an example would be the 2008 crisis and the more recent global pandemic.
When major things like these happen, the market fluctuates drastically and in turn bringing higher or lower interest rates.
So sometimes it might make sense to refinance your mortgage just to get those lower interest rates, especially if it’s the right time.
2. To tap into home equity
If you borrow more money than the amount you owe on your original home loan, refinance lender will give you basically extra money as a difference. This is officially called a cash-out refinance.
What you do with this amount it’s up to you, but you should spend it wisely like home repairs and improvements and other things to help with your debt.
3. To shorten your mortgage time
If you have taken out a 30-year mortgage, you might want to consider refinancing it into a 15-year loan. This makes sense if you want to become debt-free faster, but also to pay lower interest in the long run.
Sure, the monthly payment will go up, if you choose to shorten the loan term, but for some people, becoming debt-free faster, is more important than having to pay a few extra hundred dollars each month.
Think about it, you basically get 15 extra years of not giving out monthly payments to the bank, and instead, you keep all the money for yourself and you can even choose to invest it into new things.
4. To stop paying extra mortgage insurance
Usually, when you get a mortgage you will also have to pay for some type of insurance, such as private mortgage insurance (PMI) or Federal Housing Administration insurance (FHA) if you got an FHA loan.
Refinancing your mortgage is one of the two ways you can get rid of your FHA mortgage insurance, the other one is to sell the house. To be able to get rid of your FHA insurance you will first have to gain enough home equity, and refinancing can help you with that.
You can also remove your PMI through refinancing, depending on how much your new loan would be, you should ask and see if the new loan can have it.
5. To switch loan types
You could also decide to refinance your mortgage just to change from an adjustable-rate mortgage (ARM) to a fixed-rate mortgage or even vice versa.
With fixed-rates, your rates will stay the same no matter what. On the other hand, adjustable-rate mortgages tend to go up over time.
If you value financial stability, then it’s better to have a fixed-rate mortgage, because you never know what might happen in the future.
Plus, with an ARM you could end up paying a much higher interest later than in your first year.
As for when it’s the best time to refinance your mortgage, you will have to think about your plans for the future, starting with how much time do you plan on spending in that house. If you plan on moving away in a few years, then it might not be worth it.
It makes a lot more sense to refinance when you want to get equity into your home faster and indirectly also get to remove mortgage insurances, but also if you want to get rid of the loan and become debt-free faster.
How Much Does Mortgage Refinance Costs?
You should use either a mortgage refinance calculator or start crunching the numbers yourself. But basically, you’re looking to refinance in order to save money and not to have higher monthly payments.
First, you should factor in the closing costs, depending on the state they will differ quite a lot. If the closing costs will be more than the amount you will be saving by refinancing your mortgage, then it’s definitely not worth doing it.
Usually, the closing costs fall in the 2-6% range of the loan amount.
If you decide to move before you get the chance to break even on the closing costs (it might take for example 35 months if your closing costs were $3,500 and your monthly payments dropped by $100 after refinancing), then you will lose money and it might not be worth it.
Research the Best Mortgage Refinance Rates
If you’ve decided that it’s worth refinancing your mortgage, then the next step is for you to start shopping around and finding the best rates.
Luckily, you won’t have to go all over town, since there are many online platforms and apps where you can check out and compare mortgage refinance rates from different lenders.
Make sure to carefully examine each lender’s rates and requirements, closing costs, etc. after that you can pick the one that fits your goals the best.
How to Refinance Your Mortgage, step by step
- Define your mortgage refinancing goals. What do you want to achieve? Lower monthly payments? A shorter loan term? Getting to home equity faster?
- Research best lenders. Don’t rush this step and take your time to find and compare lenders in order to find the best refinance rate that fits your goals.
- Apply for a loan with more lenders. You should apply with 2 to 5 lenders, to compare their offers later and make a better idea of who to choose as your mortgage refinance lender.
- Choose one lender. By now you should probably have narrowed your lenders list down to one. Ideally, you have found one that has the best offer and closing costs for your financial situation.
- Lock the interest rate. The interest rate fluctuates daily so it’s best to lock in your interest rate, and during the lock, the rate cannot be changed anymore. It’s best to close on the loan before the lock expires.
- Closing time. Now all that’s left to do is to sign all the papers and pay the closing costs and you’re done.
How to refinance your mortgage, Key Takeaways:
- One of the best reasons for refinancing your mortgage is to get a lower interest rate.
- Be on the lookout every time interest rates drop, and calculate if it makes sense to refinance your mortgage to shorten the term from 30 years to 15 years to become debt-free faster.
- Refinancing your mortgage is also ideal if you want to switch from an adjustable-rate mortgage to a fixed-rate one, especially if you want more financial stability.
- Getting equity into your home faster, and removing additional mortgage insurances is also another reason to refinance your loan.