You can help make your household finances more manageable with a refinance. But is refinancing a good idea right before you sell your home? It might not be – we’ll explain why.
We’ll go through the refinance options for a home you want to sell and outline a few reasons why homeowners refinance. We’ll also help you explore your options if you’re having trouble making your payments.
Reasons To Refinance
What is a refinance, anyway? A refinance simply means you pay off your existing loan and replace it with a new one. Let’s take a look at some of the most popular reasons you might want to refinance.
Lengthen Your Mortgage Term
You can lengthen your mortgage term with a refinance. This gives you more time to pay off your loan and lowers the amount you must pay every month.
Shorten Your Term
You can also refinance to a shorter mortgage term. You increase your monthly payment when you shorten your mortgage term, which allows you to own your home faster and save thousands of dollars in interest.
Take A Lower Interest Rate
Are interest rates lower now than when you bought your home? If so, you can lower your monthly payment and save money in the long term when you refinance to a lower rate. You may also qualify for a lower interest rate if your credit score is higher now than when you bought your home or you’ve paid off other debts.
Change Your Loan Structure
Do you currently have an adjustable-rate mortgage? If you’re past the fixed period, the amount you pay in interest each month can vary significantly. It’s possible to refinance from an ARM to a fixed-rate loan that keeps your payment the same every month. This keeps your monthly payments predictable, which can be an asset if you live on a limited budget.
Change Your Loan Type
Many homeowners refinance their government-backed loans to conventional loans as soon as they build enough equity. For example, you must pay a mortgage insurance premium throughout the life of an FHA loan if you bring less than 10% for a down payment. On the other hand, you can cancel private mortgage insurance when you reach 20% equity if you have a conventional loan. You can also refinance to a conventional loan if you have an FHA loan with at least 20% equity in your home.
Take Cash Out Of Your Equity
A cash-out refinance allows you to accept a higher principal balance and take the difference in cash. For example, imagine that you have a mortgage with a principal balance of $100,000. You want to spend $10,000 to add a pool to your home, but you don’t have the cash on hand. If you take a cash-out refinance, you’d take on a loan with a $110,000 principal balance. In exchange, your lender would give you $10,000 in cash a few days after you close.
Unlike other types of loans, you can use the money from a cash-out refinance for almost any purpose. Many homeowners take cash-out refinances to pay off debt. This is because mortgage loans have lower interest rates than most credit cards and other loan types.
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How Soon Can You Put Your Home On The Market After You Refinance?
There is no law that will stop you from refinancing your home before you plan to sell it. However, this is very rarely beneficial to you as the buyer due to the costs of closing on a refinance.
When you refinance your mortgage loan, you need to pay closing costs before you can finalize your new loan. Just like when you bought your home, closing costs go to your lender and cover services associated with finalizing your loan. Some common closing costs you might see when you refinance include:
- Application fee: Some lenders charge a fee when you apply for a refinance. This fee is due even if your lender rejects your loan application.
- Appraisal fee: When you refinance, your lender will almost always order another appraisal. The appraisal is important because it lets the lender know they’re not loaning you more money than your home is worth.
- Inspection fees: In some states, you need to get another inspection before you close on a refinance. You may also need an inspection if you refinance to a government-backed loan.
- Attorney review and closing fee: In some states, a real estate attorney must conduct your refinance closing.
- Title search and insurance fees: You may have to pay for a new title search to ensure there are no liens on your home if you refinance with a new lender. You may also have to pay for title insurance again.
The specific amount you’ll pay in closing costs varies depending on your loan type, where you live and your lender. As a general rule, expect to pay 2% – 3% of your total loan value in closing costs. That means that if you refinance a home with a $150,000 principal balance, you can expect to pay between $3,000 – $4,500 in closing costs to finish your refinance.
The money you save when you refinance often isn’t seen for a few months into your loan due to closing costs. This is why it usually doesn’t make financial sense to refinance your home loan if you don’t plan to live on your property for at least another 5 years.
Let’s take a look at an example. Imagine you have a $150,000 loan with an APR of 4% and 15 years left on the loan’s term. In this example, your monthly mortgage payment is $1,109.53 before property taxes and insurance.
Interest rates are lower now than when you locked into your loan and your lender tells you that you may qualify for a refinance. When you apply, you see that you can secure a 3.5% APR and keep your loan’s same term. You refinance and pay $3,000 at closing. Your monthly mortgage payment is now $1,072.32. This means that you now pay about $37 less each month for your loan. With this new lower payment, it’ll take about 81 months (or about 6.75 years) to save the amount you paid in closing costs on your refinance. If you sell your home less than 6.75 years after you refinance, you lose money. This is why most lenders don’t recommend refinancing if you plan to sell your home soon.
Keep in mind that these rules apply to conventional mortgages only. If you refinance to a government-backed loan (like an FHA loan), different rules apply. For example, when you sign on an FHA loan refinance, you agree to live in your home as your primary residence for at least a year. Putting the home up on the market as soon as your refinance closes is against the rules. Contact a Home Loan Expert to learn more about when you can refinance if you have a government-backed loan.
Can You Refinance If Your Home Is On The Market?
It’s possible to refinance your loan if your home is on the market. However, finding a lender who’s willing to work with you will be more difficult. Mortgage lenders need you to hold onto your mortgage loan for a period of time to make money on interest. If they see that your home is for sale, your lender will assume that you’ll pay off your loan as soon as you sell the home. This means they won’t make the money they were counting on and won’t want to service your refinance.
If you do find a lender willing to service your refinance, keep in mind that your new loan may include a clause called a “prepayment penalty.” This states that if you pay off your loan very early in your term, you’ll still need to pay the interest you otherwise would have paid on the loan. Prepayment penalties ensure lenders that they’ll make money on your loan even if you pay it off early. These penalties may come in addition to any closing costs you must pay. If you plan to refinance when your home is on the market, ask your lender about prepayment penalties and when they expire.
What Are Your Options?
So, you know that you want to refinance, but you also know that you want to sell your home in the future. What should you do? Let’s take a look at a few of your options.
Request A Loan Modification
A loan modification isn’t the same thing as a refinance. When you get a loan modification, your lender agrees to make changes to the terms of your loan and you can change your monthly payment, interest rate and term. In some rare cases, your lender may even agree to forgive a portion of what you owe in principal.
Loan modifications are less expensive than refinancing. This makes them a great option if you’re having trouble making your payments before you sell your home and buy a smaller property. However, keep in mind that lenders have no obligation to honor your request or negotiate your loan terms.
Take A No-Closing-Cost Refinance
When you apply for a refinance, your lender might offer you a no-closing-cost refinance. This will roll your closing expenses into the principal of your loan. In exchange, you pay a slightly higher interest rate and don’t pay anything out of pocket at closing. For example, if you refinance a $100,000 loan, you might pay $2,000 in closing costs. You’d pay nothing at closing and take a loan with a $102,000 principal with a no-closing-cost refinance.
The name “no-closing-cost refinance” is misleading because you do, in fact, end up paying your closing costs later on in the loan’s term. However, if you’re selling your home soon, you might only pay a few extra dollars a month. A no-closing-cost refinance can be a great option if you want to cash out your equity and make repairs before you sell. However, you should make sure that you make enough money on your home sale to cover your outstanding mortgage principal. You’ll need to pay it off in cash if there’s a discrepancy.
Hold Off On Your Refinance
It often makes financial sense to hold off on your refinance if you can’t get a no-closing-cost refinance and your lender won’t offer a loan modification. Do the math and see how long you’d need to live on your property to earn your money back from closing. It’s a good idea to skip refinancing if you don’t plan on living in your home long enough to earn back the expenses.
Do you want to do repairs or renovations on your property? If so, you may want to consider a home equity loan or HELOC instead of a refinance. Keep in mind that Rocket Mortgage®currently does not offer home equity loans or HELOCs.
Though you can refinance your home before selling it, it’s often not financially beneficial. When you refinance, you almost always need to pay closing costs. Closing costs can equal 2% – 3% of your loan value. If you only plan to live in your home for a few years, the amount you pay in closing costs can negate any benefits you receive. Some types of government-backed loans dictate that you cannot refinance until you live at least 1 year in your home. Additionally, your lender may charge you a prepayment penalty if you refinance and then quickly sell your home.
If you do decide to refinance, choose a no-closing-cost refinance. This will roll your closing costs into your loan and reduce the amount you spend upfront. You may also consider a home equity loan or a loan modification.
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