What is Mortgage Refinancing? How does it work?

Your home is a financial asset. One way to use your house to make that investment work for you is to refinance. You might want to refinance to get cash from your house, lower your payment, or shorten the length of your loan, among other things.

Let’s look at what happens when you refinance your mortgage so you know what to expect.

What does it mean for a house to be refinanced?

When you refinance the mortgage on your house, you basically trade in your old mortgage for a new one, which often has a different principle and interest rate. Your backer will then use the new mortgage to pay off the old one, leaving you with just one loan and one monthly payment.

People refinance their homes for a number of reasons. You can use your home’s value to get cash from a cash-out refinance, or you can look into a rate and term refinance to get a better interest rate and/or lower monthly payment. A swap could also be used to take someone off the mortgage, which is often done when a couple gets a divorce. You can also put someone else on the loan.

How does it work to refinance a home?

Most of the time, the process of refinancing is easier than buying a home, even though it has many of the same steps. It’s hard to know how long your refinance will take, but it usually takes between 30 and 45 days.

Let’s look more closely at how refinancing works.

Applying

The first step is to look at the different types of refinancing to find the best one for you.

When you apply to refinance, your lender will ask for the same information you gave them or another loan when you bought the home. They’ll look at your salary, assets, debts, and credit score to see if you meet the standards for refinancing and can pay back the loan.

Some of the things your lender might ask for are:

  • The last two pay stubs
  • The last two W-2s
  • The last two bank records

If you are married and live in a community property state, your lender may also need papers from your partner, even if your spouse isn’t on the loan. If you work for yourself, you might be asked for more proof of your pay. You should also have your tax records from the last couple of years on hand.

You don’t have to refinance with the company you already have. If you choose a different lender, your present loan is paid off by the new lender, and your contact with the old lender ends. Don’t be afraid to compare mortgage rates, availability, and customer happiness numbers from different lenders.

Getting your interest rate locked in

After you get accepted, you may be given the choice of locking your interest rate so it doesn’t change before the loan closes or letting it run.

Lock in your rate of refinancing

Locking in a rate can last from 15 to 60 days. The rate lock term varies on a few things, like where you live, the type of loan you have, and who your backer is.

You may also get a better rate if you choose to lock in for a shorter time since the loan doesn’t have to protect against the market for as long. But be careful: if your loan doesn’t close by the end of the lock time, you may have to pay to extend the rate lock.

Float your rate

You might also be able to “float” your rate, which means that you don’t have to lock it in before getting the loan. You might be able to get a lower rate with this feature, but you also run the risk of getting a higher mortgage rate.

With a float-down choice, you might be able to get the best of both worlds, but if you like the rates when you apply, it’s usually best to go ahead and lock your rate.

Underwriting

As soon as you send in your application for a mortgage loan, your lender will start the approval process. During the screening process, your mortgage lender checks all of your financial information to make sure it is correct.

Like when you bought your home, your banker will check the facts of the property. In this step, the home is appraised to find out how much it is worth. The mortgage evaluation is a very important step because it tells you what choices you have.

For example, if you want to refinance to get cash out, the value of your home will determine how much money you can get. If you want to lower your mortgage payment, the value could affect whether you have enough home equity to get rid of private mortgage insurance (PMI) or qualify for a certain loan choice.

Home Appraisal

Before you refinance, you must get an evaluation, just like when you bought your house. The assessment is ordered by your loan, the appraiser comes to your home, and you get an estimate of how much your home is worth.

You should make sure your home looks its best before the appraisal. Clean up and fix any small problems to make a good impression. You should also make a list of the improvements you’ve made to the house since you’ve owned it.

What you do after the evaluation depends on whether:

  • The loan amount is the same as the assessment. If the value of your home is the same or more than the amount of the loan you want to refinance, the screening is done. Your lender will get in touch with you to talk about the close.
  • The evaluation comes in low. If the evaluation is low, the loan-to-value ratio (LTV) on your refinance could be too high to meet the standards of your lender. At this point, you can either change how much money you want to get from the swap or cancel your application. You can also do what is called a “cash-in refinance,” which means you can bring cash to the table and keep the terms of your present deal.

Getting your new loan closed

Once the home evaluation and approval are done, it’s time to close your loan. A close Disclosure will be sent to you by your lender a few days before the close. There, you’ll see the final numbers for your loan.

When you buy a home, the closing takes longer than when you refinance. At the closing, the people on the loan and title, as well as someone from the banker or title company, are present.

At closing, you’ll talk about the terms of the loan and sign the paperwork. This is when you’ll pay any closing costs that aren’t included in your loan. If your lender owes you money (for example, if you’re doing a cash-out refinance), you’ll get the money after close.

You have a few days after closing on your loan before you’re locked in. If something happens and you need to get out of your refinance, you can use your right of cancellation to stop at any time before the 3-day waiting period ends.

Why You Should Refinance Your Mortgage

We’ve already talked about some of the reasons why you might want to refinance your current debt. Let’s take a look at some of the most important ones.

1. Change the length of your loan

People who want to save money on interest often move to a shorter term. For example, let’s say you started out with a 30-year loan but can now afford a bigger mortgage payment. You could refinance to a 15-year term to get a better interest rate and pay less interest altogether.

To lower your monthly payment, you can also refinance to a longer term.

2. Lower your rate of interest

Interest rates change all the time. If the rates on your loan are better now than when you got it, you might want to refinance. If you drop your interest rate, your monthly payment will go down. You’ll probably also pay less in total interest over the life of the loan.

3. Change the type of your loan

There are many ways in which a different type of loan or loan program could help you. Maybe you got an adjustable-rate mortgage (ARM) to save money on interest, but now that rates are low, you’d like to switch to a fixed-rate mortgage.

You might now have enough equity in your home to switch from an FHA loan to a standard loan and stop paying a mortgage insurance cost (MIP).

4. Get Cash from Your Equity

With a cash-out mortgage, you borrow more than you owe on your home and get the difference in cash. If the value of your home has gone up, you may have enough equity to get cash to make repairs, pay off debt, or pay for other things.

When you take money from your home, the interest rate is much lower than with other types of loans. Taxes can be affected by a cash-out swap, though.

FAQs on Refinancing

Read the most common questions people have about mortgage refinancing to learn more about the process and get more mortgage refinancing tips.

How much does it cost to get a new loan?

The total cost of refinancing varies on a number of things, like how much your home is worth and who your backer is. Expect to pay between 2% and 6% of the loan’s total value.

The good thing about refinancing is that you might not have to pay those costs out of pocket, especially now that the unfavorable market refinances fee has been taken away.

In some cases, you can get a loan with no closing costs, so you don’t have to bring any money. Be aware that you will pay for closing costs in the form of a higher rate over the life of the loan.

When should I get a new loan for my house?

To decide if you should refinance, you’ll need to think about a number of things. Think about the way the market is going, including the current interest rates, as well as your finances, especially your credit score. After taking into account the costs of borrowing, it’s a good idea to use a mortgage refinance tool to figure out your break-even point.

You also need to know how refinancing is different from other mortgage choices like loan change and second mortgages.

Is it better to refinance or change the terms of your loan?

The main difference between a refinance and a loan modification is that a refinance gives you a new mortgage, while a loan modification changes your current terms to help you stay in your home. For example, a loan modification might add missed payments back into your amount. Also, it’s important to remember that you should only think about a change if you can’t get a loan and need long-term payment relief. Modification usually has a big effect on your credit score in a bad way.

Is getting a second mortgage the same as getting a new loan?

When you refinance, the new mortgage you get takes the place of your old one. This is an important difference between getting a second mortgage and refinancing. Another difference between a refinance and a second mortgage is that a refinance only needs one monthly mortgage payment, while a second mortgage requires two. Even though the closing costs for second mortgages like home equity loans and home equity lines of credit (HELOCs) are usually cheaper than for refinancing, the interest rates are usually higher. Before choosing a way to pay for something, think about what works best for you.

Can I lower my home payment without getting a new loan?

If you want to lower your monthly payment, a mortgage reset is an easy way to do so. It means making a large one-time payment on your capital so that your lender can re-amortize the remaining amount.

How soon can I refinance after I close?

The answer to this question rests on the type of loan you are getting and who is investing in your loan. It could be anywhere from 30 days to 6 months or a year.

How often you can refinance relies on how much wealth you have built up and how much you still owe on your mortgage.

How will my credit score change if I refinance my home?

When a homeowner wants to refinance their mortgage, the lender does a hard search and checks the borrower’s credit record. Your credit score will go down because of this approval process, but only for a short time. After a few months, your credit score can get better as long as you don’t get any more credit cards and keep paying off any bills you have.

Bottom Line: Refinancing your mortgage can make your house work for you.

Refinancing is a great way to use your home as a financial tool when the time is right. To save money in the long run, you can change the length of your loan, get a better interest rate, or switch the type of loan you have. You can also cash out the value of your house and use the money for whatever you need.