Refinancing is nothing but a replacement of your existing mortgage. It does not erase your debt, but helps to simplify payments. A refinance loan can help you do so by either lowering the interest rate or extending the loan term. Sometimes, you need a refinancing option to change your loan types – from an adjustable-rate mortgage to fixed-rate one or vice versa.
Chief Advantages of Refinancing
The most important reason for refinancing is to avail the lower interest rate that is now available due to a change in market conditions or an improvement in your credit score. Here are some of the benefits of taking a refinance loan.
- With a lower interest rate, you can reduce either your monthly payment or mortgage term.
- Even if the interest rate does not change, you can extend the term to lower the monthly payment.
- Several years after you take the first mortgage, you may want to utilize the equity built over the years. This is one reason for the existence of cash-out refinancing, which can help you obtain extra income for buying a new car, paying for education and meeting different expenses.
- It is a good idea to combine several high-interest loans or credit cards into one payment at a lower interest rate. Debt consolidation is becoming a good use of refinancing.
- Borrowers with an adjustable-rate mortgage can get the risk out of the loan by switching to a fixed-rate mortgage.
Is Refinancing Free?
Nothing is free in this world. So is refinancing. It is just a new mortgage, so you need to pay the usual closing costs and other fees. Sometimes you may want to hire a professional to negotiate with the lender and keep the cost of refinancing to the minimum. For example, it is possible to cancel private mortgage insurance that you might be paying at present.
It is possible to roll over closing costs and other charges, and pay the same in your monthly payment. In fact, you can pay lenders in a variety of ways, such as by purchasing origination points or by agreeing to pay a higher interest rate. The points you buy are actually a part of the annual percentage rate or APR.
When it is better not to refinance?
As you can see, refinancing costs money, so you have a few things to consider before you can refinance. Replacing your existing mortgage only makes sense when you intend to live in your home for a longer period, say for 5 years.
According to a report, the average cost of a refinance loan is about $4,000 for a principal amount of $200,000. If you monthly payment is down by $100, it will take 40 months to level the cost of refinancing. If you sell your house and move before this period, you are sure to lose money.