Refinance Your Mortgage

While low mortgage rates can cause many homeowners to restructure their finances, the decision to refinance your mortgage should be made based on your personal financial situation. This week's mortgage rate should not be the deciding factor in deciding whether to refinance.

There are nine key considerations to consider before applying for a mortgage refinance.

1. Know Your Home's Equity

The first piece of information you will need to look at is determining the equity in your home. If your home is worth less than when you started your mortgage, called negative equity, it makes no sense to refinance your mortgage.

At the end of Q2 2021, consumer confidence hit its highest level since the start of the COVID-19 pandemic. This means that, according to real estate information provider CoreLogic, many home owners have seen their net worth increase dramatically. A recent report found that U.S. homeowners with mortgages (accounting for about 63% of all real estate) saw their net worth increase by 29.3% year-over-year (YoY) YOY), representing a collective earning over $2.9 trillion and an average increase of $51,500 per borrower, since Q2 2020.

This means that the number of homeowners with a negative net worth has decreased significantly over the past year. In Q2 2020, 1.8 million homes, or 3.3% of total collateral, suffered negative equity. This is down 30%, or 520,000 properties, in the second quarter of 2021.

However, some homes have yet to regain value, and some homeowners have a low net worth. Refinancing with little or no equity is not always possible with conventional lenders. However, some government programs are available. The best way to find out if you qualify for a particular program is to consult with your lender and discuss your individual needs. Homeowners with at least 20% equity will have an easier time qualifying for a new loan.

2. Know your Credit Score

Lenders have tightened their loan approval standards in recent years. Some consumers may be surprised that even with very good credit, they don't always qualify for the lowest interest rates. In general, lenders want a credit score of 760 or higher to qualify for the lowest mortgage interest rates. Borrowers with lower scores can still get a new loan, but they may have to pay higher interest rates or fees.

KEY POINTS TO REMEMBER

* Before deciding whether to refinance your mortgage, make sure you have enough equity. Having a capital of at least 20% will make it easier for you to get a loan.

* Make sure you have a credit score of at least 760 and a debt-to-income (DTI) ratio of 36% or less.

* Review refinance terms, interest rates, and costs - including scores and whether you'll need to pay private mortgage insurance (PMI) - to determine if continuing to borrow meets your needs or not.

* Be sure to calculate your break-even point and how refinancing will affect your taxes.

3. Know your Debt-To-Income Ratio

If you already have a mortgage, you can assume you can easily get a new one. However, lenders have not only raised their credit scores, but have also become stricter with their debt-to-income (DTI) ratios. While certain factors, such as a high income, a long and steady work history, or substantial savings, can help you qualify for a loan, lenders often want to keep the money. monthly home below the maximum of 28% of your gross monthly income. .

Overall, your DTI ratio should be 36% or less, although with a few additional positive factors some lenders will go as high as 43%. To qualify, you may want to pay off some debt before refinancing.

4. Cost of Refinancing

Refinancing a home typically costs 3-6% of the total loan amount, but borrowers can find a number of ways to reduce the cost (or accumulate it on the loan). If you have enough equity, you can transfer the costs to your new loan (and thus raise capital). Some lenders offer "free" refinancing, which usually means you'll have to pay a slightly higher interest rate to cover closing costs. Remember to negotiate and shop around, as some refinancing fees may be paid by the lender or even reduced.

5. Rates relative to Duration

While many borrowers focus on interest rates, it's important to establish your goals when refinancing to determine which mortgage product meets your needs. If your goal is to keep your monthly payments as low as possible, you'll want a loan with the lowest interest rate for the longest term. If you want to pay less interest over the life of your loan, look for the lowest short-term interest rate. Borrowers who want to pay off their loan as quickly as possible should find a mortgage with the shortest term they can afford. Mortgage calculators can show you the impact of different rates on your monthly payment.

6. Refinacing Point

When comparing different mortgage offers, be sure to consider both interest rates and points. Points - equal to 1% of the loan amount - are usually paid to lower interest rates. Be sure to calculate how much you'll pay in points with each loan, as these will be paid at the end or converted into the principal of your new loan.

7. Know your breakeven point

An important calculation in the refinancing decision is the break-even point: the point at which the cost of refinancing has already been covered by your monthly savings. After this point, your monthly savings are all yours. For example, if your refinance cost you $2,000 and you save $100 per month over your previous loan, it will take 20 months to cover your costs. If you intend to move or sell your home within two years, refinancing in this case may not make sense.

8. Private mortgage insurance

Homeowners with less than 20% equity in their home at the time of refinancing will need to pay for private mortgage insurance (PMI). If you've already paid PMI on your existing loan, it won't make much of a difference to you. However, some homeowners whose homes have depreciated since the date of purchase may find that they will have to pay PMI for the first time if they refinance their mortgage.

Reduced payments due to refinancing may not be low enough to offset PMI's additional costs. Lenders can quickly calculate if you need to pay PMI and this will add to your housing payment.

9. Know your taxes

Many consumers have relied on their mortgage interest deduction to lower their federal income tax bill. If you refinance and start paying less interest, your tax deduction may be lower. (It's important to note that few consider this reason enough to avoid refinancing.)

However, it is also possible that the interest deduction is higher for the first years of the loan (when the interest portion of the monthly payment is greater than the principal). Increasing the size of your loan, due to cash payments or closing costs, will also affect the amount of interest you'll pay.

That said, the Tax Cuts and Jobs Act (TCJA) regulations, enacted in December 2017, could affect your desire to use the mortgage interest deduction.

The new, higher standard deduction — $25,100 for couples filing jointly in 2021, up from $12,700 under the previous law — could make itemized deductions less appealing. financially for more taxpayers.

Wealthier homeowners looking to refinance a large existing mortgage will still be able to deduct interest on mortgages up to $1 million, but the limit on new mortgage debt is now $750,000 for homes purchased on December 15, 2017 or later. With these changes, you should consult your tax advisor for personalized information on the impact of refinancing on your taxes.

The Bottom Line

Like many other financial transactions, mortgage refinancing is complex and requires due diligence by homeowners when considering it. Talk to a reputable loan company for quick answers to some of your concerns. This will help you make important decisions about whether refinancing is right for you. If this seems like the right decision to you, do the research described above to determine if refinancing is financially right for you.