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What is Refinancing?

Refinancing your home basically means that you are going to pay off your current loan with a new, more financially attractive loan. There are a few general reasons why homeowners decide to refinance. The common goals people have in mind are lowering their monthly payments, manage debt with home equity, pay off the loan faster, or lower the interest rate of the loan.

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An interest rate is the percentage of interest on your principal amount borrowed that needs to be paid back to the bank that is loaning you the money. The low-interest rates that banks can currently offer are influenced by the government, specifically, the federal reserve. The federal reserve can raise or lower short-term interest rates in an attempt to stimulate the economy. During times like these, you can expect national interest rates to be lower than usual. Other variables that will factor into your personal interest rate for your home are your loan-to-value ratio, your credit, or the type of refinance loan you are planning to use. 

Types of Mortgages for Refinancing 

Traditional Loan

A traditional loan in terms of refinancing is simply replacing your existing mortgage with a new loan that eventually either lowers your monthly payment or allows you to pay your mortgage off faster. 

Cash-Out Loan

In a cash-out loan, a homeowner can replace their mortgage with a more attractive loan that will save them money on a monthly basis. The difference between what they were paying and what they pay now, will be given to them in cash. 

Home Equity Loan

In a home equity loan, you are essentially taking out a second mortgage on your home. This means that a line of credit on your home can be taken out and put towards other expenses.

Cons to Refinancing 

You Shouldn’t Refinance If…

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Generally speaking, if refinancing your home has a lower interest rate than your current mortgage and your total savings outweighs the fees that come with refinancing, it is something worth doing. That being said, there are some instances where refinancing doesn’t logically make sense. Closing costs during refinancing can be expensive. Costs associated with closing on a new loan include appraisal fees, title searches, surveys, taxes, record filing, an attorney fee, and more. You can estimate that closing costs will run you about 2-5% of the purchase price of your home. 

When refinancing your home, the amortization of your mortgage may begin all over again. Amortization is the payment ratio of your interest payment to principal payment that your monthly payment goes towards. You pay much more towards the interest of the loan at the beginning of your mortgage before even tapping into the principle. The principle is the amount of money you are buying. Your loan is structured this way in order to ensure lenders that they will make a profit off of loaning you money.

How to Get Started

Now that you know the reasons why you should and why you shouldn’t refinance your home, what are the next steps? First, you will need to shop around for your loan like you initially did when buying your home. When you found a deal that makes the most sense for you, do a cost analysis to see how long it will take to break even after closing costs. Next, it is important to get all relevant information and paperwork ready to go. This will generally include pay stubs, tax returns, credit reports, and statements of assets and liabilities.

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