When to Refinance a Mortgage

Are you wondering when you should refinance your mortgage? Maybe interest rates are lower than when you took out your mortgage, and you’re looking to save some extra cash each month, or to start checking off that long list of dream renovations, or even to pay off your mortgage sooner, so you can finally own your home outright. Refinancing can help you achieve a variety of goals. In this article, we’ll cover when it makes sense to refinance, how refinancing a mortgage works, and some of the things to consider if you’re wondering whether refinancing is right for you.

Let’s start by taking a look at some instances when it might make sense to refinance.

5 good reasons to refinance a mortgage

1. You want to lower your monthly payments

If you want to lower your monthly payments, refinancing may help. If you lengthen your mortgage term, you should be able to lower your monthly payment. Note that lengthening your term could result in you paying more interest over the life of the mortgage and your interest rate will likely be higher than with a shorter term mortgage.

2. You want to shorten your overall term

Alternatively, if you want to pay off your mortgage sooner, you could refinance to shorten your term length. This may result in higher monthly payments, but it’ll help you meet your goal of home ownership sooner. You could also increase your monthly payments on your existing mortgage but if you do, contact your mortgage servicer to make sure your extra payments are applied correctly. Also, check your mortgage terms to see if you might incur any penalties if you end up of paying off your mortgage early.

3. You want to lower your interest rate

If interest rates have dropped since you initially took out your mortgage, refinancing could help you secure a lower rate, potentially saving you money over the life of your mortgage. Be aware that there are closing and origination costs that come with refinancing a mortgage (generally 2%-5% of the loan amount^[1]), so you’ll want to make sure that the money you’ll save with a lower interest rate will outweigh the potential costs you’ll incur. Some lenders, like Laurel Road, may offer discounts on closing costs, so check all your options when it’s time to refi.

4. You want to switch from an adjustable-rate mortgage (ARM) to a fixed-rate mortgage

Adjustable-rate mortgages can be attractive to borrowers because they usually offer lower initial rates than fixed-rate mortgages, which can save you money. But those rates can also rise, which can ultimately make them a more expensive choice if interest rates increase after you take out your mortgage. If this has happened to you, or you’re concerned this could happen, refinancing to switch from an ARM to a fixed-rate can potentially reduce your interest rate and protect you from future rate hikes.

5. You want cash for something important

Want some extra cash, stat? If you’ve built up equity in your home and could use some extra money for other priorities, such as a long-awaited home renovation, or even an unexpected financial emergency, refinancing with a cash-out refi can help you free up some funds. With a cash-out refi, you take out a larger mortgage than your current one and keep the difference in cash. For example, if your home is worth $400,000 and you have a $200,000 balance on your current mortgage, you could take out a new mortgage for $300,000 and keep the $100,000 difference. And remember, most lenders (with some exceptions) require you to maintain at least 20 percent equity in your home in a cash-out refinance, so make sure the math works after you figure in closing costs. In the example above, you would still have 25% equity in your home.

Now that you know more about some of the different scenarios where refinancing makes sense, let’s look at how the refinancing process actually works.

How refinancing a mortgage works

When you refinance, you’re basically taking out a new mortgage to replace your current mortgage. It’s a similar process to when you took out a mortgage to buy your home in the first place.

1. Ask for estimates: First, ask for loan estimates from at least three different lenders. You’ll typically have to provide your:

1. 1. Name
   2. Social Security Number
   3. Monthly Income
   4. Minimum Monthly Expenses
   5. Estimated Credit Score
   6. Property and Occupancy Type
   7. Estimate of your home’s value
   8. How much you want to borrow

2. Lock in your rate: Once you pick the lender you’d like to work with, notify the lender within 10 days that you’d like to proceed with the loan application to lock in the interest rate you were quoted. If you wait longer than 10 days, you might have to start the process over.

3. Provide your lender with all the additional necessary documents, including, but not limited to:

1. 1. Recent pay stub
   2. W2 forms from the last two years
   3. Tax returns from the last two years
   4. Bank statements from the last two months
   5. Documentation of any sources of additional income
   6. Proof of homeowner’s and title insurance
   7. Debt statements on your current mortgage, student loans, car loans, and credit cards

4. Appraisal: Most lenders will ask for a home appraisal, which is an estimate of how much your house is worth. Most lenders will not give you a mortgage that is greater than the appraised value, so it’s important that your home appraisal matches, or exceeds, the amount of your new mortgage.

5. Underwriting: Once you’ve supplied all the required documentation for your application, your lender will begin the underwriting process, which is where they check all of your information to make sure it’s accurate. This process might take anywhere from five days to a few weeks, so if there was ever a time to exercise patience, this would be that time.

6. Closing: Assuming everything checks out during the underwriting process, your last step is to close. You’ll review the terms and conditions of the loan and sign the documents. You’ll also pay any additional closing costs, which as noted above, are often around 2%-5% of your mortgage’s remaining principal, but can vary by lender.

Now that you understand some of the benefits of refinancing and how the process works, there’s one more question you need to ask before you decide to refinance: when is it a good time for you to refinance your mortgage?

How do I know if it’s a good time to refinance?

If one of the scenarios outlined above applies to you and you’re considering home refinancing, there are a few steps to take before you begin the process.

1. Examine your financial situation: Your financial situation will dictate what type of refinancing might make sense. For example, if interest rates have fallen since you first took out your mortgage, you may be able to lower your monthly payments by refinancing. Or if you have more income coming in, you could refinance and shorten your term and pay off your mortgage faster. On the other hand, if you can’t afford the closing costs, then refinancing may not make sense.

2. Understand the refinancing process: Familiarize yourself with the steps of the process, so you’re prepared for the requirements at each step (and the varying amounts of time needed to complete them). And make sure you budget enough time. For example, if you want to do a cash-out refi, you might need to wait six months^[2] after your original loan closes before you can.

3. Estimate your closing costs: Knowing your closing costs can help you determine your break-even point — the point where the money you’ll save from refinancing will outweigh the costs. Your closing costs may include:

• Loan origination fees
• Discount fees
• Appraisal fees
• Title searches and insurance costs
• Survey fees
• Deed recording fees
• Attorney fees
• Credit report costs
• Escrow charges

To calculate your break-even point, divide your total loan costs by how much you’ll save each month from your new mortgage. For example, if your closing costs are $5,000 and your monthly savings are $500 ($5000/$500 = 10), then your breakeven point will be 10 months. The Consumer Financial Protection Bureau notes that two years or less is a common rule of thumb for break-evens. If yours is longer, you should perhaps reconsider whether refinancing makes sense right now. That being said, if you plan to live in your home longer than two years, refinancing may still be a good option for you.

If you’ve considered all the factors above and decided that now is a good time to refinance, make sure you do your due diligence and find the best provider for your refinancing needs. A mortgage is often the largest financial obligation people take on in their lives, so be sure to give it the time and consideration it deserves.

Bottom line: when to refinance a mortgage

The best time to refinance your mortgage depends on your financial situation and what makes sense for you. Make sure refinancing is the right step to meet your needs, whether it’s saving money, changing your terms, or raising funds. Take the time to compare offers, lender fees, and closing costs. Calculate your break-even point. If everything lines up, refinancing your mortgage may be the right next move for you.

Looking for a mortgage refi lender? Learn more about KeyBank mortgage refinancing here.