When you refinance your mortgage you’re replacing it with a new home loan that ideally has a better interest rate and loan terms. Your potential savings will vary depending on the size of your home loan, loan-to-value ratio, and the refinance rates and fees you get. Mortgage rates are still near historic lows so if you’ve been procrastinating or are on the fence about paying for a new home loan there’s no better time than the present.
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Should I Refinance My Mortgage?
Using a simple mortgage calculator like the one below makes it easy to calculate how much you’ll save and if refinancing is worthwhile. You can get started by entering your home loan balance, the interest rate you’re being quoted, your ideal term length and annual taxes and insurance (optionally).
Simple Mortgage Calculator
Generally speaking if you’re able to reduce your mortgage rate by one percent you’ll save around $1,000 annually for every $100,000 you owe. This doesn’t take into account changes in term length or the fees you’ll pay, all important considerations when deciding if you should refinance.
Shortening your term-length from 30 years to 15 years for instance will save you a boat-load of cash in finance charges alone and allow you to recoup your out-of-pocket expenses at a much faster rate.
How to Calculate Your Break Even Point
Calculating your break-even point will help you decide if paying for a new home loan is worthwhile. This calculation is only an approximation because it doesn’t factor in changes in term-length; however, it is still a useful determination.
Start with the new mortgage payment amount you got by using the simple mortgage calculator above. Your monthly savings is the difference between your old payment and the new one. Add up all of your out-of-pocket expenses that you’ll pay closing on the new mortgage and divide by your monthly savings. This will tell you approximately the number of months it will take to break even recouping your closing costs.
Are you satisfied with the amount of time it’s going to take you to break even? If so, paying for a new home loan probably makes sense. Keep in mind that the less you pay closing on your new home loan the more you’ll benefit from today’s low refinance rates.
Types of Mortgage Refinancing
The type of mortgage refinancing you choose influences the interest rates and fees you’ll receive. Getting the best terms for your new home loan depends partly on the type of refinancing you choose.
- Rate & Term Refinancing
- Cash-out Mortgage Refinancing
- Government Refinance Programs
This is the most common option for many homeowners. With rate & term refinancing the goal is to lower your interest rate and/or change the term length of your home loan. Cashing equity out of your home is usually not an option and the less you pay at closing the better off you’ll be in the long run.
Qualifying for cash-out refinancing is becoming increasingly difficult. You’ll need near stellar credit and a favorable loan-to-value ratio just to qualify. Refinance rates and lender fees are higher than what you see with rate & term refinancing.
If your home loan is with the FHA, VA or USDA you can save yourself a lot of hassle with government refinance programs. The FHA streamline refinance program allows you to lower your interest rate with minimal paperwork and fees. The VA offers an Interest Rate Reduction Refinance Loan (IRRRL) with the same type of streamline refinance. The USDA offers a similar streamline refinance program.
If you’re underwater in your current home loan, meaning that you owe more than your home is worth, you might qualify for the Home Affordable Refinance Program (HARP) if your home loan is backed by Fannie Mae or Freddie Mac.
The only catch with Government Refinance Programs is that you cannot have late payments and cash-out refinancing is not an option.
Beware Excessive Mortgage Fees
The downside of refinancing your home are the fees you’ll be required to pay at closing. The most common fees you’ll encounter are the loan origination fee and discount points. The origination fee is paid to the person or company arranging your home loan and discount points are paid to lower your interest rate.
You’ll find when shopping for refinance rates that most lenders quote interest rates that include discount points first. Should you pay discount points to get the lowest possible interest rate? Probably not. Paying unnecessary points only raises your out-of-pocket expenses and makes it that much more difficult to recoup your closing costs. Most homeowners do not benefit from paying discount points; however, if you’d like to see how paying the fee affects your payments there is a table on page three of your Good Faith Estimate.
What about that loan origination fee? Most loan officers will tell you that one percent is standard for the origination fee; however, I’ve reviewed small, community based credit unions that charge as little as $400 for their loan origination fee. This is one of the considerations you’ll need to factor in when shopping for the best mortgage deal.
When shopping for refinance rates you’re bound to encounter no out-of-pocket fees or no closing costs options that allow you to either roll your mortgage fees into the loan balance or take higher interest rates in exchange for the lender paying your fees.
If you don’t have the cash on hand to pay your closing costs these can be attractive options; however, you should weigh how this option affects your payments in the long run.
Your Bank vs. Mortgage Brokers
They type of lender that you choose affects the fees you’ll pay. Most lenders are fairly competitive when it comes to refinance rates; however, the real differences come from the fees they charge.
Banks offer convenience generally at the expense of fees. Mortgage brokers have access to home loan offers you might not find on your own but typically charge higher origination fees. Community based credit unions seem to have the best deals that I’ve found, if you qualify for membership.
Shopping smartly from a variety of banks, credit unions, and mortgage brokers will help you find the best deal.
How to Shop Smartly For Your Next Home Loan
- Understand Your Existing Home Loan
- Check Your Credit Reports First
- Choose a Mortgage Program & Stick With It
- Shop From a Variety of Lenders & Brokers
- Use The Good Faith Estimate Correctly
The first step in getting the best deal is to find out as much as you can about your current home loan. Is it backed by Fannie Mae or Freddie Mac? What is the term length? How much is your home worth? How much do you owe and at what interest rate? Is there a prepayment penalty? The answers to these questions will help you replace your current mortgage loan with a better deal.
Make sure that your credit reports are accurate by visiting AnnualCreditReport.com before requesting mortgage refinance quotes. Avoid applying for new credit card accounts, especially those store charge cards while you’re applying for refinancing. The quickest way to boost your credit score is to pay down the balances on your credit cards below 30% of your limit.
This is one of the most important things you’ll do before refinancing. Do you want an FHA streamline refinance? Do you need a 30-year fixed mortgage rate? Is your goal to refinance with a 15-year term to build equity and payoff the loan balance faster? The point here is pick a mortgage program and don’t let a fast talking loan officer confuse you by quoting mortgage rates and fees across different programs.
Comparing mortgage quotes from the identical programs is the only way to make a true apples-to-apples comparison of interest rates and fees.
Shop around for the best refinance rates AND fees from a variety of today’s best mortgage lenders. Make sure you’re getting accurate quotes by providing your Social Security number but limit all of your quotes to a two week (14 days) period. When you limit mortgage lenders to running your credit in a two week period your credit score will only get dinged for one lender inquiry.
The new Good Faith Estimate is a mortgage refinance rate shopper’s best friend. Remember to request zero discount point quotes and use the table on page three to see if you’ll benefit from paying this fee. Page two shows you the loan origination fee, any Yield Spread Premium and garbage fees like processing or administrative fees. Use page two as leverage when negotiating with loan officers. Remember that brokers and lenders are a dime a dozen. If one doesn’t want to play ball with you move on to the next.
Keep your loan officer honest by reconciling the Good Faith Estimate with the HUD-1 Settlement Statement provided prior to closing. The HUD-1 is the final word on your refinance rate and fees.
The most common mortgage mistake is not doing your homework prior to paying for a new home loan. Shopping smartly for the best refinance rates and fees will ensure you break-even quickly and get the most benefit from your lower interest rate.
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