Your Refinance Guide: What It Is And How It Works
A refinance can help change the terms of your loan and make your mortgage more manageable. Let’s take a look at the refinance process and the costs involved. We’ll help you understand how refinancing works and how you can start your refinance with Rocket Mortgage®.
Overview: What Is Refinancing?
When you refinance your mortgage, a new loan replaces your current loan. Depending on how you refinance, your new loan might have a different term, interest rate or principal balance.
You don’t have to refinance with your current lender. If you choose a different lender, that new lender pays off your current loan, ending your relationship with your old lender.
There are a couple of major types of refinances you can choose from: rate and term refinance or cash-out refinance.
Rate And Term Refinance
A rate and term refinance changes your interest rate or how long you have to pay back your loan. You can lower your monthly payments by increasing your loan’s term, or you can save money on interest over time by taking on a higher monthly payment.
You may also qualify for a lower interest rate. Refinancing your loan’s rate or term doesn’t change the amount of principal or the original amount of money you were lent.
A cash-out refinance occurs when you take out the equity you have in your home. Equity refers to the amount of money you’ve put into your home through a down payment or monthly payments. A cash-out refinance allows you to take money out of your equity to cover almost anything, whether you want to pay off credit card bills, make home improvements, boost retirement savings or start a college fund for a child. Your interest rate and term may or may not change when you take a cash-out refinance.
A cash-out refinance increases your mortgage’s principal balance. You agree to take on a more expensive loan in exchange for cash. For example, imagine that you have an $80,000 balance left on your loan but you need $10,000 for kitchen updates.
A cash-out refinance means you would agree to take a loan for $90,000 and your lender would give you $10,000 in cash. You must already have some equity in your home to qualify for a cash-out refinance.
Keep in mind that not everyone qualifies for a refinance. You need to meet your lender’s individual terms to get a refinance. Some things to consider before you start searching for a lender include:
Current home equity: Don’t assume that you can get $10,000 through a cash-out refinance if you’ve paid off $10,000 of your mortgage.
Lenders require that you have more equity in your home than you want to take out. The amount of equity you need to have to qualify for a refinance varies by lender and loan program.
Credit score: Lenders look at your credit score when they consider you for a refinance – just like when you apply for a mortgage. You’ll need a credit score of at least 620 (580 if you have an FHA loan) to qualify for a refinance.
Other debts: Your mortgage lender also looks at your current debt-to-income ratio when they consider you for a refinance. The less debt you have when you apply, the better your chances of getting an approval.
Reasons To Refinance Your Mortgage
There are plenty of reasons why you might want to refinance your mortgage. Let’s take a look at some of them.
Change Your Monthly Payment
You can lower your monthly payments when you refinance your loan to a longer term. For example, if you refinance a 15-year mortgage to a 30-year loan, you have more time to pay back what you owe. This means that your monthly premium will be lower.
Lengthening your term can help you get back on track if you’re having trouble keeping up with your monthly payments. Just keep in mind that when you take a longer term, you pay more in interest over time.
You can also go the opposite direction and take a shorter term. When you refinance from a longer term to a shorter term, you save money in interest and you can own your home free and clear sooner.
However, this also increases the amount you need to pay each month because you’re giving yourself less time to pay off your loan. Refinancing to a shorter term is a great choice if you have more income than you did when you originally got the mortgage.
Lower Your Interest Rate
You may qualify for a lower interest rate if you have a higher credit score or less debt than you did when you first got your mortgage. You may also qualify for a lower interest rate if market rates went down since you signed on your loan.
Lowering your interest rate reduces the amount you owe each month and can even save you thousands of dollars over time. Compare your current annual percentage rate (APR) with offers from competing lenders to see if you can save money with a refinance.
Cash Out Equity
Selling your home isn’t the only way you can use your equity to get cash. A cash-out refinance allows you to tap into the equity you’ve built in your home in exchange for taking on a larger mortgage principal.
You can use the money you cash out of your equity for almost anything. You might opt for a cash-out refinance to consolidate debt, take care of home-repair bills or add to retirement accounts.
You need to already have a certain amount of equity in your home before you qualify for a cash-out refinance. Depending on your loan type, your lender may require you to leave a certain percentage of equity in your home as well.
How Does Refinancing Work?
Now that you know why you might want to refinance your loan, let’s look at how the process actually works.
Find A Lender To Help You Refinance
First, you need to choose a lender. Refinancing your loan is a big decision, so you’ll want to make sure that you choose one that’s reliable and affordable. Don’t be afraid to shop around and compare each lender’s current rates, availabilities and client satisfaction scores.
Prepare The Necessary Documents
Your lender needs a few documents to process your application. Having your documents prepared ahead of time can speed up the process. Some of the documents your lender might need include your:
- Two most recent pay stubs
- Two most recent W-2s
- Two most recent bank statements
Your lender will need your spouse’s documents too if you’re married. You might be asked for more income documentation if you’re self-employed.
Apply Through Your Lender
You can apply to refinance through your lender once you have your documents in order. The specific process you’ll go through depends on your individual lender.
No matter which lender you choose, you’ll get a document called a Loan Estimate once you’re approved. Your Loan Estimate tells you the new terms of your loan, your APR and an estimate of how much you need to pay during closing. Your lender may allow you to “lock” your interest rate while they finish the underwriting and closing processes.
The underwriting stage is when your lender looks over all of your documentation to ensure that you qualify for a refinance. During underwriting, your lender checks and verifies the documents you submitted when you applied.
Your lender handles underwriting for you – all you need to do is wait. Most refinance underwritings take between 1 – 2 weeks, but any third parties involved in the process (like appraisers) can slow this step down.
Just like when you originally bought your home, you must get an appraisal before you refinance. Your lender orders the appraisal, the appraiser visits your property and you receive an estimate of your home’s value.
If the home’s value is equal to or higher than the amount you want to refinance, it means that the underwriting is complete. Your lender will contact you with details of your closing.
What happens if your estimate comes back low? You can choose to decrease the amount of money you want to get through the refinance, or you can cancel your application.
Your refinance closing is very similar to your initial mortgage closing. Since you already own the home, you don’t need to worry about real estate agents or sellers. At closing, you’ll ask any last-minute questions about your loan, pay your closing costs (or have them rolled into your loan if you have enough equity) and sign on your new loan.
You won’t receive cash right at closing if you’re getting a cash-out refinance. The Truth in Lending Act requires your lender to give you 3 business days after closing to cancel the refinance. After that window passes, your lender will transfer your funds to your account.
Benefits Of Refinancing With Rocket Mortgage®
Thinking about refinancing? Here are a few great reasons to choose Rocket Mortgage® to handle your refinance.
- Rocket Mortgage® is accessible: You can use Rocket Mortgage® in all 50 states, plus our award-winning customer service team is available 24 hours a day, 7 days a week.
- Rocket Mortgage® is safe: Rocket Mortgage®uses bank-level encryption to keep your data protected, and we will never sell your personal information.
- Rocket Mortgage® is accurate: When you apply for a loan with Rocket Mortgage®, you get real numbers – not estimates. This can make shopping for a home within your budget much easier.
A refinance replaces your existing mortgage with a new loan and can allow you to change your mortgage term or interest rate or take cash out of your home’s equity. Getting a refinance is a lot like applying for a mortgage. First, you choose a lender and apply with the necessary documents. Your lender will underwrite your loan and order an appraisal. If everything goes through, your lender will schedule your closing. You’ll get your money 3 to 5 days after closing if you’re taking cash out of your home.
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