When you refinance your mortgage, you take your existing loan and replace it with a new one. It can typically take 30 to 45 days from application to closing. Here are the five steps to take when refinancing your mortgage.

Step 1: Determine your goal for refinancing.

Before you decide to refinance, it is important to be clear with your financial goals. You'll want to make sure that the refinancing fees you incur are worth what you'll gain.

Break-even point
To make sure refinancing is worth the cost, you also need to consider your break-even point. The break-even point will tell you how long it will take to start seeing the benefits of refinancing your mortgage.

You can calculate this point by dividing your closing costs by the monthly savings from your new payment.

Total Closing Costs/Monthly Savings = Break-Even Point

For example, if your closing costs are $5,000 and you are saving $100 a month with your new payment, it would take you 50 months or a little over four years to break even. If you plan to stay in your house for longer than four years, then refinancing makes sense.

Reasons to Refinance
There are several reasons to consider refinancing which you can read here but let's take a look at the three most common reasons to consider refinancing.

  • Lower Your Interest Rate
    If the market rate is lower than your current mortgage rate, you can save money by refinancing. Lowering your interest rate and keeping your loan term the same will reduce your monthly payments and how much you owe over the life of your loan.
  • Change Your Loan Term
    If you choose to shorten your loan term, you will pay off your loan faster, reducing the amount of total interest you will pay. For example, if you refinance from a 30-year fixed-rate to a 15-year fixed-rate mortgage, you will have a higher payment each month, but there will be fewer payments overall which means less interest to pay. You can also choose to lengthen your loan term, which will spread out the loan amount over a longer period, so your monthly payments will be lower.
  • Use Your Equity(Cash-out Refinance)
    Using your equity as cash allows you to borrow money at a much lower interest rate than other loan types. A lender will look at the current market value of your home and how much you have left on your existing mortgage to determine the equity you've earned on your home. Typically, with a refinance, you can borrow up to 80% of your home's value, so your new loan will be what you owe on your current mortgage plus the difference of equity you take out as cash. For example, your current mortgage balance is $250,000, and your home value is $300,00. You can borrow up to 80% of the home's value, which is $280,000. The new mortgage will pay the $250,000 you have left on the original mortgage, and the $30,000 (minus closing costs) left is yours to use as you need.

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Step 2: Check your financial health!

Like with your original mortgage, you'll need to qualify for approval. There are a few factors to consider when looking at your financial health.

Credit score.
If your credit score has remained steady or improved since you applied for your first mortgage, this will reflect positively to lenders. To check your current credit score, request your free annual copy of your credit report from the agencies directly (Trans Union, Experian, and Equifax) or a website like www.freecreditscore.com. Check each report for accuracy and if you find any mistakes, be sure to contact the agencies immediately to correct it. You can also reach out to the creditor directly and ask them for assistance. If your score is lower than you'd like, make changes to improve it. Pay your bills by the payment due date each month, limit the amount you borrow, and don't close older revolving accounts like credit cards even if you do not use them anymore. The length and depth of your credit history is important too!

Debt-to-income ratio.
Your debt-to-income ratio, or DTI, helps lenders understand how much debt you can take on. To determine your DTI, lenders compare your total monthly debt payments with your gross monthly income. Each lender has its own preferred DTI ratio for approving a refinance. It is important to avoid opening any credit cards, personal or auto loans when you are applying for a refinance. This will increase your DTI and can risk you being denied a loan.

Ensure your income is steady and stable. Lenders will want to see a strong employment history to ensure that you can make your payments every month.

Step 3: Figure out how much equity you have in your home.

You start to build equity in your home as you pay down the principal in your mortgage payment. To figure out how much equity you have or the loan-to-value ratio of your home, you would take the total market value of your home minus what you owe on your mortgage.

During the refinance process, your lender will request a home appraisal to get the current value of your home, as it may have changed since purchasing the home. The appraisal will consider similar homes in the area and how well you've maintained your home. If your home's value has increased, you may have enough equity to take cash out for home improvement, debt consolidation, or other expenses. Here's more information about the home appraisal process and how it affects your loan application.

Depending on your equity percentage, plus other factors, you may be able to take out a new mortgage for up to 80% of the current market value of your home.

Step 4: Applying for your refinance.

Since mortgage loans are higher dollar amounts, small differences in interest rates can be thousands of dollars in savings, so it's good to do your research and compare lenders.

Choose a lender and loan term.
It is important to do research and review the available options. Do not feel obligated to use your current lender for your refinance. You'll want to find a lender who can not only offer you a great rate but can support the loan you want and be a trustworthy partner.

Have your paperwork ready.
The paperwork you need is what you needed for your original mortgage, including two most recent pay stubs, two most recent W-2s, and the most recent two months of bank statements. If you have these basic pieces of information ready for your lender, you will save time and speed up the process.

After your application is submitted, you'll also receive a Loan Estimate (LE) that estimates the fees and costs of your loan. Typically, your lender must provide you with a loan estimate within three business days of receiving your application.

Lock in your rate.
Once you have chosen your lender and loan terms, it is good to lock in your interest rate. Lenders will offer a rate lock that will guarantee the interest rate you discussed, so you won't have to worry about rates climbing before your loan closes.

Step 5: Close on your loan.

The closing for your refinance will be like the closing when you bought your home, but since you own your home, there will be no real estate agent or seller. Before closing, your lender will send you a Closing Disclosure, which lists all your loan details, including interest rate, monthly payments, fees, and closing costs.

Closing costs.
Closing costs are typically 2-5% of your loan amount and are often a smaller percentage on a refinance loan because some fees associated with mortgage loans are only for purchasing a new home. Here are a few costs you will likely pay:

  • Loan application fee
  • Loan origination/underwriting fee
  • Home appraisal fee
  • Credit report fee
  • Title search/insurance fee
  • Real estate attorney fee (to review paperwork)

There may be other costs depending on the loan you choose. You can pay the costs upfront, or you may be able to roll your closing costs into your loan balance.

What to Bring to Closing.
Here are some of the items you'll need to bring to closing:

  • Photo ID, like a driver's license, passport, or government-issued photo ID
  • A cashier's or certified check in the amount of the closing costs due
  • Your Closing Disclosure to compare to final paperwork
  • A list of key contacts, like your lawyer, in case any questions come up

Like with your original mortgage closing, you will sign a lot of paperwork, so be sure to bring your favorite pen! Be sure to read over all the paperwork carefully to ensure it is correct before signing. After all the paperwork is signed, you will pay any remaining closing costs and be on your way!

Congratulations! You reached your financial goal, whether it was to save money, reduce your monthly payment or get some much-needed cash at a low rate. We hope you feel confident about the decision you made and continue working hard towards a successful future.

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