How Does Mortgage Refinancing Work?

Refinancing your mortgage essentially involves taking a new loan to repay your original loan. Many homeowners refinance their original mortgage to a new one to get a lower rate, cash out their equity, or reduce their monthly mortgage payment. However, before you start the process, it’s necessary to understand how to go about the process.

How Do You Refinance a Mortgage?

The process to refinance your mortgage is not too different from the process you followed to get your current mortgage. You’ll need to start by shopping around for different loans and then comparing the rate and terms of these loans. Once you find a suitable loan, you can go ahead and apply for it. If your credit score has improved since when you first got your mortgage, you’ll likely be able to get a better interest rate on the new loan. 

Reasons to Refinance Your Mortgage

• Lower rate of interest: If you are paying a higher-than-average interest rate, you could refinance to a loan with a lower rate and save money on interest payments. 
• Tapping into the equity in your home: If you have sufficient equity in your home, you could tap into it by refinancing your loan. This could help you finance a large purchase, pay for emergency expenses, or renovate your home, among other things. 
• Changing the type of loan: If you are on an adjustable-rate mortgage, you can refinance to a fixed-rate mortgage that has a lower rate and steady monthly payments. 
• Lowering the monthly payments: If you are finding it difficult to make your monthly payments, you could refinance to a loan with a longer-term and lower monthly payment. Keep in mind that if you do this, the cost of your loan will increase. 

Types of Refinancing

• Rate-and-Term Refinance Loan: With this loan, you can change the rate of interest, loan term, or both without changing the loan amount.

• Cash-Out Refinance Loan: This loan helps you cash out the equity you have in your home. Doing this, however, will increase the loan amount, with the difference being equal to the amount you cash out.

• Cash-In Refinance Loan: This type of refinance loan is not too common. Here, the homeowner puts money towards their loan balance, thus reducing the total sum owed.

How Does Refinancing Affect Your Credit Score?

When you apply for a new loan, the lender does a hard inquiry on your credit report, which causes a minor drop in your score. Also, once you refinance your loan, your score will be affected if you default on your payments.