Homeowners: Read This Before Doing a Summer Home Refinancing
Refinancing a home can be a smart financial move, especially when interest rates are favorable. With summer approaching, many homeowners are considering refinancing to take advantage of potentially lower rates and improve their financial situation.
Here are six essential things that homeowners need to know before refinancing their home this summer.
#1. The Basics of Refinancing
Refinancing involves replacing your existing mortgage with a new one, usually with different terms. Homeowners choose to refinance for many different reasons, including to secure a lower interest rate, reduce their monthly payments, change their loan’s term, or to switch from an adjustable-rate mortgage (ARM) to a fixed-rate mortgage.
Knowing why you want to refinance is extremely important because this is a major financial decision and you want to ensure that you’re doing it for the right reasons and that your expectations will be met.
The most common reasons to refinance are:
- Lower Interest Rates: Refinancing can lower your interest rate, which will help reduce your monthly payments and the total interest paid over the life of the loan.
- Shorter Loan Term: Switching to a shorter-term loan can help you pay off your mortgage faster and save on interest, though monthly payments may be higher than your previous amount.
- Cash-Out Refinance: This option allows you to borrow against your home’s equity, providing funds for home improvements, debt consolidation, or other expenses. But on the other side of the coin, it will reduce your equity and in most cases cause your monthly payments to be higher.
#2. Financial Situation
Before refinancing, it’s crucial to evaluate your financial situation. Lenders will scrutinize your credit score, income, debt-to-income ratio, as well as the equity you have in your home. If any one of these factors aren’t where they need to be, then you may not be approved for your new loan.
Key considerations to keep in mind before you apply for a mortgage refinance:
- Credit Score: A higher credit score generally qualifies you for better interest rates. Check your credit report for errors and take steps to improve your score if necessary. This is essential because if your credit score is lower than it was when you were approved for your current loan, then you may not get as low an interest rate as you had hoped.
- Income Stability: Lenders prefer borrowers to have a stable income and employment history. Be prepared to provide documentation, such as pay stubs and tax returns.
- Debt-to-Income Ratio (DTI): Your DTI ratio compares your monthly debt payments to your gross monthly income. A lower DTI ratio indicates better financial health and increases your chances of securing more favorable loan terms.
- Home Equity: The amount of equity you have in your home can affect your refinancing options. Typically, lenders prefer at least 20% equity for the best rates and terms.
#3. The Costs of Refinancing
Refinancing isn’t free; it involves various costs that can add up. Just as with your original home loan, there will be a wide variety of expenses included, such as the down payment, application fees, appraisal fees, title search fees, and closing costs.
Top things to consider regarding the cost of refinancing:
- Closing Costs: Closing costs can range anywhere from 2% to 5% of the new loan’s amount. Be sure to factor these into your calculations to determine if refinancing is going to be as financially beneficial to you as you imagined it would.
- Break-Even Point: Calculate how long it will take for the savings from the new loan to cover the refinancing costs. If you plan to stay in your home beyond the break-even point, refinancing may be a good option but if you are planning on moving before that point, then refinancing will ultimately cost you more than if you had kept your original loan.
- Prepayment Penalties: Some mortgages have prepayment penalties for paying off the loan early. Check your existing loan agreement to see if this applies.
With the economy holding strong and interest rates holding steady, refinancing your home this summer could be a smart move. Being well-prepared and informed will help you make the best decision for your financial future. Join us next month when we review even more things you need to know before a summer home refinancing.
