Should I Refinance My Home? How To Know If It’s Time for a New Mortgage Loan

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One of the few silver linings in the COVID-19 pandemic has been that interest rates have plunged to all-time lows and seem poised to remain low at least through 2022. If you’ve been wondering when to refinance your mortgage, there might be no better time.

The best reason to refinance your mortgage is to reduce the interest rate on your existing mortgage. A good rule of thumb is to refinance if you can reduce the interest rate by 2% or more. But even a smaller rate drop could end up being a good move, as long as your costs and fees don’t eat up the savings. Here’s a look at the ins-and-outs of mortgage refinancing to help you answer the question, “Should I refinance my home?”

What Is Refinancing?

When you refinance a mortgage, you take out a new mortgage to replace your existing one. There are two major types to choose from.

A rate-and-term refinance reduces your interest rate and either extends the term of your loan so you get more time to pay, thereby reducing your payment, or shortens the term so you pay the loan off faster.

The other type is a cash out refinance. If you have enough equity in your home, you can refinance into a new mortgage for more than you currently owe and take the difference as a lump sum.

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Why Should You Refinance Your Mortgage?

The best time to refinance your mortgage is when refinancing can save you money — or make a loan you’re struggling to pay more affordable. Refinancing can also make sense if you need to tap into the equity you have in your home.

Here are the most common reasons why you might refinance your mortgage:

Leverage Lower Interest Rates

If rates have dropped since you took out your loan — or you qualify for a better rate because your credit has improved — you can save money on your interest payments by refinancing to a lower rate.

Eliminate Mortgage Insurance

You’re likely paying mortgage insurance if you bought your home with less than 20% down using a conventional loan or less than 10% down using an FHA loan. If your conventional-loan mortgage insurance is lender-paid, or you took out your FHA loan after 2013, your mortgage insurance can’t be canceled no matter how much equity you have in your home. However, you can eliminate the mortgage insurance by refinancing your mortgage after you have at least 20% equity.

Get a Better Loan Term

Depending on your financial situation, you may want to either extend or shorten your current mortgage loan term. If you’d prefer the flexibility of lower payments, you can refinance into a new, longer-term loan. If you want to pay off your mortgage faster and save in overall interest costs, you can refinance into a shorter term.

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Trade an Adjustable Rate for a Fixed Rate, or Vice Versa

A fixed rate makes sense when you want predictable payments and plan to stay in your home for a long time. An adjustable rate might be better if you can get a low introductory rate and plan to sell before the rate readjusts.

Take Money Out

With a cash-out refinance, you can use the lump sum payout for any purpose you like, such as paying down high-interest credit card debt.

Drawbacks of Refinancing Your Mortgage

In some cases, the cons of refinancing your mortgage can outweigh the benefits. Here are some notable drawbacks of mortgage refinance.

  • High Closing Costs: Although fees vary based on your loan, local taxes and other factors, you can expect closing costs to reach 3% to 6% of your loan amount. If you sell your home before you’ve saved enough in interest to break even on those closing costs, it will have cost you more to refinance than you saved with the lower rate. An online mortgage calculator can help you figure out how long before you’d break even.
  • Burdensome Paperwork: To refinance your house, you’ll need to apply for a brand-new mortgage, with all of the required documentation.
  • Delayed Mortgage Payoff: If you refinance your mortgage into a new 30-year loan, you’ll add years to your mortgage. Although your monthly payment might become more affordable, you’ll be paying for a longer period of time. This could cost you more in the long run.
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How Long Does It Take To Refinance a Mortgage?

Generally, you can expect the mortgage refinance process to last between 30 and 45 days. However, this estimate can vary widely because you’re applying for a brand-new home loan.

In addition to having your home appraised, your lender will evaluate your credit and finances, just like it did when you took out your current loan. The more prepared you are before you begin your application, the more likely the refinance can run smoothly and according to schedule.

When Should I Refinance My Home?

The bottom line is that you should refinance your home when doing so will leave you in a better financial position or allow you to draw cash for large, important expense without risking your home. Otherwise, any benefit is likely to be offset by closing costs or the additional cost of extending the term of your existing loan.

John Csiszar contributed to the reporting for this article.

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