Refinancing a loan means taking out one loan to essentially replace another. This article will focus mostly on refinancing with home loans.
Becoming a homeowner is a tremendous accomplishment, especially in this day and age where purchasing property is far more difficult than it used to be. Home prices have skyrocketed by nearly 20% over the last year (2022) and mortgage rates have risen faster than they have in decades.1 But just because you are a homeowner does not mean that you no longer experience financial struggles.
Going through a challenging time in your finances can be magnified when you own a home because it can become overwhelming trying to make your monthly mortgage payments. This is one of the main reasons why homeowners might choose to refinance their mortgage loan. Mortgage refinancing could allow you to access more affordable monthly payments or a more competitive interest rate. This was one of the main reasons that about 14 million mortgages were refinanced during the pandemic, when mortgage rates dropped.2
Before going forward with refinancing, it is important to have a clear understanding of how refinancing your mortgage works, including what the pros and cons are, so you can determine whether it is actually the right choice for you.
What Does It Mean To Refinance a Mortgage Loan?
The process of refinancing your mortgage entirely replaces your current loan with a new loan with new terms and a new interest rate. Obtaining a refinance loan for debt refinance could allow you to get a loan term that offers you more affordable payments or an interest rate that can help you save money.
You can refinance your mortgage loan with a brand new lender or simply re-apply with your current lender for updated terms, conditions, and interest rates. When refinancing your existing loan, you may also be able to obtain some extra money through a cash-out refinance. This type of refinancing allows you to borrow additional cash through the equity you have already built up in your home.
Through mortgage refinancing, you have the opportunity to lengthen your loan term to get lower monthly payments, shorten your loan term to pay off your balance off sooner, access a lower interest rate, alter your loan type, get a cash-in refinance, or a cash-out refinance.
Reasons To Get a Mortgage Refinance
There are a variety of reasons why homeowners might decide to refinance their mortgage loan. If you are considering refinancing, here are some of the reasons you might decide to go forward with refinancing:
Lower Monthly Payment and Interest Rate
If you are struggling to make ends meet, you might want to refinance your loan to access a lower monthly mortgage payment, which can happen via a longer repayment term or lower interest rate.
Applying for a rate-and-term refinance loan could allow you to lengthen your current loan’s term, so your monthly payment gets reduced. Similarly, if you have improved your credit score or market rates have dropped, you might be able to access lower interest rates by refinancing a new loan. A lower interest rate could lessen the amount of money you need to pay in total for financing your house than you would have had to pay on your existing loan.
Change Your Interest Rate Type
When financing a house, you can have either a fixed interest rate mortgage or an adjustable interest rate mortgage. If you are having regrets about which rate type you got when you first took out your loan, you can refinance your loan to switch from an adjustable rate to a fixed-rate mortgage or vice versa. Refinancing to a fixed-rate mortgage could help you avoid the impact of market fluctuations.
Adjust Your Loan Terms
Shortening or lengthening your loan terms can have its own benefits. Shortening your loan terms will allow you to pay off your home sooner than you’ve planned, saving money on interest in the process. Lengthening your loan terms will lower your monthly payment which, while not saving you money in the long run, could be necessary for managing your budget.
Obtain Some Extra Cash
If you have paid off a significant portion of your loan, there may be considerable equity in your house which means you might qualify for a cash-out refinance. You could take out the additional money and use it to finance a large purchase, consolidate debt, or any number of other things.
Pay Down Your Balance
Another more rare reason that homeowners might choose to refinance is to pay down the balance considerably. A cash-in refinance is typically considered if you are underwater on your mortgage, meaning you owe more than the house is worth, or if you wish to be rid of your private mortgage insurance.
Can A Mortgage Refinance Hurt My Finances?
Asking yourself will refinancing hurt my finances or credit? If not, it’s important to do so. Just like with every other big financial decision you make in your life, there are always drawbacks to consider. It is always good to consider both sides when attempting to make a smart decision.
Here are a few of the possible cons of a mortgage refinance or general refinancing:
| Possible Cons of Refinancing | Description |
| Increased Interest Charges | Lengthening your loan term during mortgage refinancing may result in paying more in interest charges over the loan’s life. |
| Uncertain Monthly Payment Amounts | Refinancing may lead to lower or higher monthly payments; cash-out refinancing could result in larger monthly payments, impacting your credit if unaffordable. |
| Delayed Break-Even Point | If you haven’t recouped your closing costs, it may be wiser to stick with your current loan rather than refinancing. |
| Unpredictable Market Conditions | Market conditions are beyond control; refinancing during unfavorable conditions may not yield better terms. |
| Challenging Qualification and Credit Impact | Qualifying for a refinance can be difficult based on credit and finances; multiple refinance applications may lead to numerous hard inquiries and lower credit scores. |
| Extended Loan Repayment | Lowering monthly payments through refinancing may extend your loan duration, potentially impacting your long-term financial goals. |
| No Guaranteed Lower Interest Rate | Refinancing doesn’t guarantee a lower interest rate; outcomes vary based on market conditions and individual circumstances. |
| Applicability Beyond Mortgages | Some of these cons apply to other loan types, such as personal loans, bad credit loans, and installment loans. |
Keep in mind that although some of these are specific to mortgage loans, some of them can also be applied to personal loan options, bad credit loans, and other installment loans.
How to Better Budget Your Mortgage Payments
Planning and organizing a monthly budget can be difficult when you are experiencing some financial struggles. If you are having trouble affording your mortgage payments and you are not able to obtain a cash-out refinance, you might need to re-imagine your budget to live more frugally until things become more stable.
It is vital to make each monthly payment on time, as having a roof over your head and keeping your credit score in good shape are top priorities. Here are some recommendations that could help you budget your monthly expenses easier:
Take a Look at Your Current Budget
The first thing you will need to do is sit down with what your current budget looks like and analyze where most of your money is going. If you don’t have a set budget you follow, print out a couple of bank statements and look at those.
As a homeowner, your budget should revolve primarily around your mortgage payment, as it is likely your largest expense. Food and housing are your most basic needs and are therefore central to your budget, as they can’t be sacrificed for other expenses. What percentage does each category of expense account for in your monthly budget?
Review Your Necessities vs. Wants
Once you’ve figured out the proportions of your current budget, divide up what expenses qualify as necessities and which qualify as wants. It can be challenging at times to determine the difference between needs and wants when it comes to money. But it is incredibly helpful to pinpoint exactly what you spend every month on food, shelter, healthcare, and utilities. Pretty much everything else can be classified as a want.
While it is not realistic to live on a budget that is exclusively necessities with no room for wants, there are ways to minimize the wants in your budget in a sustainable way. It is possible to live comfortably while still being frugal so that you can get back on your feet. You can slowly reintroduce the little luxuries of life as you become more financially stable.
Rearrange the Proportions of Your Budget
Minimizing the portion of your income you have typically spent on wants will automatically increase the money you have to put toward your needs. This should make your monthly mortgage payments more affordable on your income as it stands. Some simple finagling of your unnecessary expenses could make your housing costs suddenly affordable.
Consider canceling some streaming services or other subscriptions. Take a few months off going out to eat or ordering delivery for dinner. Start packing your lunch and make your coffee at home. Each minor cost you cut will increase what you have to put towards your monthly payment.
Reduce Your Other Debts
How much money are you spending every month on your other debt payments? It can be incredibly challenging to afford your bills when you are needing to pay a ton of monthly payments on high-interest debt like credit card minimums or quick cash loans. Minimizing your other debts, especially the high-interest ones with a monthly payment, will free up a significant amount of money, making it easier for you to afford your mortgage.
FAQS
Costs with refinancing typically include appraisal fees, origination fees, and closing costs. While most people are familiar with mortgage refinancing, it’s also possible to refinance a personal loan. The costs associated might be different than those with a mortgage, but it’s essential to factor these in to see if you’ll truly save money in the long run.
Your credit score plays a crucial role in the refinancing process. A higher credit score can fetch you a better interest rate, whether you’re looking to refinance personal loans or a mortgage. A better interest rate can significantly reduce the total interest paid over the life of the new mortgage or personal loan refinance.
Yes, you can refinance your current mortgage even with a second mortgage or HELOC. However, the refinancing process might be slightly more complicated. You might need to pay off the existing debt from the second mortgage or HELOC or combine both into a new mortgage.
The refinancing process, whether for a mortgage or to refinance a personal loan, typically takes 30 to 45 days. However, the duration can vary based on the lender and your financial situation.
The best time to refinance is when interest rates are lower than the rate on your original loan. This can help you save money on total interest paid. However, you should also consider your financial situation, like how long you plan to stay in the home and how much you’ve already paid on your current mortgage.
In theory, there’s no limit to how many times you can refinance. However, refinancing too frequently might not be beneficial due to refinancing costs. You should always calculate the break-even point to determine if refinancing will save money.
Refinancing replaces your original loan, whether it’s a personal loan or a mortgage, with a new one that typically has better terms or interest rates. Mortgage modification, on the other hand, alters the terms of your existing mortgage without replacing it. A debt consolidation refinance is a type of refinancing where multiple debts are combined into one loan, which can make managing existing debt easier.
One thing to note is that while refinancing might temporarily hurt your credit score due to the hard inquiry, the long-term benefits, such as a better interest rate or lower monthly payments, often outweigh the temporary dip.
Refinancing a personal loan works similarly to mortgage refinancing in that you replace your current loan with a new one, ideally with better terms or a lower interest rate. However, there are some key differences. Personal loans are usually unsecured, meaning they aren’t backed by collateral like a home.
The refinancing process for personal loans may be faster and might have fewer associated costs. One might consider a personal loan refinance when they have a better credit score than when they took out the original loan, or if market interest rates have decreased. It can also be a good strategy to consolidate other higher-interest debts or adjust monthly payments based on a changed financial situation.
Conclusion With CreditNinja
Refinancing a loan, whether it’s a mortgage or a personal loan, is a strategic financial move that can provide homeowners and borrowers with more favorable terms, potentially saving significant money over the life of the loan. And while it might be possible to refinance a car loan with bad credit, or any loan for that matter, it may not be the best idea.
As the housing market and the economy undergo shifts, it’s crucial for homeowners and borrowers alike to remain informed and vigilant about their financial options. By understanding what refinancing entails, its pros and cons, and how it can impact one’s financial situation, individuals can make well-informed decisions tailored to their unique circumstances. To learn more about refinancing, check out CreditNinja’s blogs!
References:
- Real Estate Obstacles | CNN
- The Great Pandemic Mortgage Refinance Boom | Liberty Street Economics
- How Does Refinancing a Mortgage Work? | Experian
- What Does It Mean To Refinance A House? | Quicken Loans
