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WHAT IS REFINANCING?

You’ve probably heard a lot of chatter recently about how mortgage interest rates, which are currently sitting at historically low levels, are beginning to creep up again. If you’ve been considering refinancing your home, you may be feeling some pressure to get the ball rolling before you miss out on the great deals that are out there right now. These concerns are understandable; many real estate specialists have been warning for months that people interested in refinancing should act fast, and their predictions have turned out to be correct. But refinancing isn’t right for everyone, so it’s important to carefully examine your whole financial picture before moving forward with trying to refinance your home. Before we get into the nitty gritty of how to go about preparing for a refinance, let’s go over what refinancing really means: if you refinance your home, you’re essentially taking out a new mortgage to pay off your old one, then repaying the new mortgage according to its terms. Many people choose to refinance when they know they’ll get a substantially lower interest rate on a new mortgage, thereby lowering their monthly housing payments. People usually expect to obtain a lower interest rate because of one of two factors: the borrower’s credit score has drastically improved, thus entitling them to a more favorable interest rate, or because market forces have caused interest rates to drop.

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KEY TERMS RELATED TO REFINANCING

Before going into any more detail about the pros and cons of refinancing, it’s critical to understand some key terms related to the process. This will ensure that the rest of this guide is clear, and that you’ll understand what your mortgage broker is referring to when you sit down to talk about the ins and outs of your refinance.

Credit Report – This is a detailed history of your history with handling your bills and credit accounts. The information on this report is used to calculate your credit score.

Credit Score – This is a numerical representation of your creditworthiness, based on the information contained on your credit report. Scores range between 300 and 850.

Interest Rate – This is the percentage of your total loan balance charged by your lender every month for the privilege of borrowing money. Your mortgage’s interest rate can have a substantial impact on your monthly payments, so most people refinance their home loans in order to obtain a lower interest rate.

Fixed-Rate Mortgage – This is a type of mortgage that charges a fixed (non-fluctuating) interest rate on your home loan over the life of the loan. This interest rate is pre-established by your lender before you take on your mortgage.

Adjustable-Rate Mortgage – This is a type of mortgage that charges a non-fixed (fluctuating) interest rate on your home loan. The percentage you’ll pay is based on broader economic conditions and can change with little notice.

Balloon Payment – Some mortgages are designed to charge borrowers a lower monthly payment in exchange for paying off the remaining balance on the loan at the end of 30 years. These lump-sum payments due at the end of the term of the loan are known as balloon payments.

Cash-Out Refinance – In this type of refinance, the borrower obtains a new mortgage for the principle still owed on the original loan and takes a cash payment for any equity that the home has accrued.

IS REFINANCING RIGHT FOR YOU?

Refinancing might seem like a great deal, and for many people it is; but the truth is that the decision about whether or not to refinance really depends on your personal financial situation. For example, refinancing makes sense if:

You’ll qualify for an interest rate that’s significantly lower (at least 2-3% lower) than the rate you currently have; this savings will justify the costs associated with the refinance

You have excellent credit; this will entitle you to the most favorable terms on your new home loan

You plan to stay in your home for several years; again, this will make the costs of refinancing worthwhile

You want or need to change the terms of your original mortgage; for example, you wish to switch from an adjustable to a fixed-rate mortgage, or you can’t afford a balloon payment that’s looming in the future

You want to cash out the equity in your home (see above for an explanation of cash-out refinances)

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Your current mortgage is “underwater”; in this case, it’s unlikely that a bank will grant you a new mortgage, so the costs of applying will probably not be money well spent

Your mortgage is almost paid off; if your current home loan is almost paid off, restarting a new home loan might mean you’ll end up paying more in interest over the life of the loan

You plan to move in the next couple of years; again, the cost of refinancing won’t be worthwhile if you’re not going to be staying in the home long enough to realize the monthly savings on your mortgage payments

ON THE OTHER HAND, REFINANCING MIGHT NOT BE A GOOD IDEA FOR YOU IF:

It’s important to consider your total financial and lifestyle picture before deciding whether or not to move forward with refinancing your home. But if you do think that refinancing is a good financial move for you, you’ll have to consider your credit. Read on for more details about how your credit will impact your plans to refinance.

YOUR CREDIT AND YOUR REFINANCE: WHAT YOU NEED TO KNOW

Having good credit is essential to making your refinancing experience worthwhile. This is because having a high credit score will ensure that the terms of your new mortgage will be positive enough to offset the costs of refinancing. So how high should your credit score be? In general, most lenders are looking for customers with credit in the low to mid 700s. If your credit score falls slightly outside this range, refinancing might still be worth looking into. Banks vary somewhat when it comes to the minimum credit score they’re willing to accept in exchange for the most favorable interest rates, so be sure to do some investigating before you dismiss the idea of refinancing.

However, if your credit score is significantly below 700, it might be worthwhile to take some steps to improve it before attempting to refinance. Fortunately, there are some concrete moves you can start making right away to boost your credit score. For example:

• Pay down your debts, especially credit card debt; carrying too much debt is a serious drag on your credit score, especially if you have too many outstanding balances on revolving credit accounts, like credit cards. Making it a priority to pay off your debts will serve as a huge boost to your credit score, which will make refinancing much easier.

• Get current on any debts that have gone into collections; one of the fastest ways to improve your credit score is to pay off outstanding debts that have gone into collections. This shows that you take your financial obligations seriously, and will give your credit a quick lift.

• Be sure you’re paying your bills on time; 35% of your credit score is determined by your history with repaying your debts on time and in-full, so if you have a bad habit of neglecting your bills, it’s time to break it. Paying all your bills by their due dates is a sure-fire way to boost your credit score, so put this task at the top of your to-do list.

• Improve your credit utilization ratio; it’s important to keep the overall amount of credit you’re using to 30% or less of the total credit that’s available to you because utilizing more than this amount will ding your score. Paying off debts helps, but it’s also a good idea to try to raise the credit limits on your credit cards if possible.

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It’s also important to note that, regardless of whether you plan to refinance now or after you’ve had an opportunity to improve your credit, there are some general guidelines and precautions you should take to make sure that your credit is in tip-top shape when you start putting in refinance applications. These include:

Your ability to refinance into a lower interest rate rests on your credit, so be sure to take this piece of your financial picture very seriously.

Checking your credit report and score regularly; this way, you’ll be sure that there are no errors on your report and that your score is so that if any issues pop up, you’ll be able to fix them before the refinance happens.

Not applying for new credit in the 60 days before you apply for a refinance; applying for new loans or credit cards too shortly before refinancing will could cause your credit score to decline. Don’t take the chance – wait until after your refinancing is complete to get new credit.

Keeping up with good money habits; paying your bills on time, avoiding debt, and keeping a good mix of credit accounts on your credit report will all help keep your credit solid enough to proceed with a refinance, whenever you feel the time is right.

PUTTING IT ALL TOGETHER

Now that you’re more educated about the process of refinancing, it’s time to put that knowledge to good use. Follow the steps below to put it all together and get started with your refinance:

Refinancing might seem like a complex process, but with a mix of the right information and a patient attitude, you’ll get through it without losing your mind. But don’t wait too long – today’s historically low rates won’t be around forever. Get started today and you’ll be on your way to a wealthier tomorrow!

Step 1 – Decide whether or not refinancing is right for you; see the information above to evaluate whether or not your lifestyle and finances will make refinancing a worthwhile move.

Step 2 – Check your credit report and score; before moving forward with a refinance, you’ll need to be sure that your credit will allow it. Pull your credit report and check it for errors, and be sure your score is high enough to make you a good candidate for refinancing.

Step 3 – Start shopping around; if you feel that refinancing will be beneficial to you and your credit is good enough to permit you to do so, it’s time to start looking for a lender. If you’re happy with the bank that issued your current mortgage, start there. If not, ask friends and family if they can recommend a mortgage broker or lender they’ve been satisfied with. Be sure to gather as many quotes as possible – you never know what types of interest rates banks are willing to offer unless you ask.

Step 4 – Be patient; refinancing involves a lot of paper work, at least one appraisal of your home, more paperwork, and the expenses related to closing on a new mortgage. Just remember that, if you get a good interest rate, all this time and money will pay off in the long run. Be patient and keep reminding yourself of how much money you’re saving!

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