Mortgage refinancing is rolling over your current home loan into a new one with a better rate. Servicing a mortgage means paying a loan from the bank in monthly installments with the interest of a fixed period. When you refinance, your new mortgage settles the balance of the previous one and with lower monthly payments for the new one.
Mortgage refinancing involves a process where the loan provider assesses your home’s current value, the history of your credit and tax return, and verification of your credit. When you successfully go through the assessment, the loan provider presents you with many options: lowered monthly payments, taking equity, or reducing the number of years for the loan.
But you need to be aware of the following facts before deciding to refinance your mortgage:
- Depending on which loan you’re eligible for, your monthly payments may be less, and you get extra money to spend on other improvement projects.
- You start paying your loan all over again, meaning that you’ll pay more interest.
- Your financial status, goals, and credit score determine the risks and benefits of refinancing.
There are various sources you can obtain more insights on how to refinance. Read through this article to understand the pros and cons of mortgage refinancing.
Pros:
Better Interest Rates
Interest rates for a new mortgage are lower than those of the initial mortgage, especially if you acquired the first mortgage about ten years ago. Lower interest rates mean reduced monthly payments, and thus you can pay the loan off sooner.
Access To Equity
Refinancing allows you to access the equity you have paid in your initial mortgage. You can spend this money by re-investing it, taking holidays, or renovating the house. However, note that the more your equity, the better the chance of getting better interest rates from your loan provider.
Shortened Loan Term
It is one of the reasons for refinancing. For instance, you can reduce your current 30-year mortgage term by half. This may not make any significant change in your monthly payments, but you’re assured of getting out of debt sooner.
Conversion To A Fixed Rate
When you obtain a home loan, you are entitled to an adjustable-rate mortgage for three to five years. You can get a fixed rate of up to 30 years when you refinance. It allows you to organize yourself better in terms of your budget, and you have regular monthly payments.
Elimination Of Private Mortgage Insurance
Private mortgage insurance is required when you obtain a loan with a down payment of less than 20% of the total purchase price. Refinancing when the mortgage rates have decreased, and your equity has increased guarantees you a loan-to-value ratio below 80%, which helps you get rid of private mortgage insurance.
Cons:
Payment Of Closing Costs
Closing costs are a requirement when you refinance the same way as obtaining the initial mortgage. You will pay for legal charges, appraisal, and loan origination fees. Closing costs range between 3% and 6% of the total mortgage amount. When you decide to refinance, the costs increase.
Increased Monthly Expenses
Refinancing to shorter-term mortgages warrants more payment of monthly charges because the pay-off period for the mortgage is shorter. It may cause strain on your cash flow. You’re likely to pay more if you refinance from a low-interest rate to a fixed rate.
More Interest In Cash-Out Refinance
You can opt to cash out some part of your home equity and refinance your mortgage. This money will cost you more interest throughout the new loan. A reduced loan term will cost you more on the total interest.
Negative Impact On Credit Score
Note that every time you apply for credit, it goes to your credit records. Refinancing is one of the aspects that negatively impact your credit score, and in the long run, you may not be able to get lower interest rates for future loan applications.
Extended Break-Even Point
Prolonging the period of your mortgage by several years results in an extension of your break-even point way further. It will depend on the period you live in your home. Ensure proper calculation of your total savings, and understand when it’s best to actualize them.
Conclusion
Mortgage refinancing is a decision to make after carefully thinking it through. In case of financial uncertainties, it’s advisable to wait and decide to refinance when you are certain that you can afford it. It’s critical to note that refinancing is a long-term strategy whose results are realized after a long time.
Disclaimer: This content does not necessarily represent the views of IWB.