Becoming a homeowner is likely one of the biggest financial commitments of your life. But did you know that learning how to refinance a mortgage can open a world of possibilities?
Refinancing can help you take advantage of lower interest rates to save money on your monthly payments, use your equity to consolidate debt, or even shorten your loan term and become mortgage-free faster.
The key is understanding how mortgage refinancing works and when it’s the right move for you.
In This Article
How to refinance your home
1. Check your credit
Most lenders will only approve you for mortgage refinancing with credit scores of 620 or higher. But the higher your scores are, the better the terms you can qualify for.
Before applying for a refinance mortgage, you can pull your free credit reports at AnnualCreditReport.com to see what improvements you need.
Any changes you make could take 30 days or more to impact your reports and scores. If your credit needs improvement, you’ll want to start working on it at least a few months in advance.
2. Choose a refinance lender
Your first thought may be to refinance your mortgage with your current lender. This can be a good place to start your search, but don’t stop there.
Interest rates, closing costs, and refinancing options vary greatly from one lender to the next. You can be sure you’re getting the best deal by shopping around with at least three mortgage companies.
Some lenders let you get pre-qualified for refinancing, which is where you input some basic information about your finances and find out your likelihood of getting approved, along with what rates and terms you may qualify for.
Pre-qualification doesn’t impact your credit, so it’s a great way to shop around before you officially apply with a company.
3. Apply for refinancing
Applying to refinance a home is much like applying for your original mortgage. The lender will ask for the same information they needed when you initially bought the house.
They’ll also review your income, assets, debt and credit report. You’ll need to provide documentation to support your application, here’s what you may need to provide:
- One month’s worth of pay stubs
- W-2 forms from the last two years
- Two months’ worth of recent bank statements
Also, if you have significant freelance or self-employment income, you’ll be required to provide your tax returns from the last three years.
4. Go through the underwriting process
During this phase, the lender will verify your financial information, pull your credit and make sure that the data is accurate.
They’ll also verify the value of your home since it serves as collateral for the refinanced mortgage, just as it did for the initial mortgage. This could affect your refinancing plans.
For example, if you’re looking to get some extra cash from refinancing, this will determine the size of the loan you are eligible to receive.
If you’re trying to lower your mortgage payment, the home’s current value can play a part since the home’s current value will determine your equity.
5. Prepare for the appraisal
Even though your home was appraised as part of the initial loan, the lender will conduct another appraisal to verify the home’s current value.
This is an opportunity for you to maximize your home’s current value. Your mortgage provider conducted the initial home appraisal before you moved in, but with some preparation, you can ensure the best possible valuation for your refinancing.
Make sure you’re putting your best foot forward for the appraiser with these simple steps:
- Tidy up the interior
- Complete any minor repairs necessary
- Make sure the yard is in tip-top condition
- Compile a list of upgrades you’ve made to your home
- Finish any projects you’re working on that will improve your home’s value
6. Close on your refinance
In many cases, you’ll need to pay closing costs just like you did with your initial loan. According to Freddie Mac, the average closing costs for a refinance add up to about $5,000.
On top of that, you may have to pay an origination fee, cover the cost of an appraisal and more. When you calculate how much you could save by refinancing, include these expenses.
Types of mortgage refinance
Rate-and-term refinance
A rate-and-term refinance is the most common type of mortgage refinancing. It’s where you replace your existing mortgage with a new one that has a lower interest rate or a different loan term.
If you’re looking to save money on monthly payments or pay off your mortgage faster, this might be the refinancing option for you.
Streamline refinance
If you have a government-backed mortgage through the FHA, VA (for veterans), or USDA, (for rural properties), you may have some streamlined financing options available to you.
These work like rate-and-term refinancing, but the process is meant to be simpler (hence the name).
Cash-out refinance
Through a cash-out refinance, you can pay off your original loan and receive a lump sum of money proportionate to the remaining equity in your home.
But cashing out equity isn’t always recommended. Like home equity loans (HELoans) and home equity lines of credit (HELOCs), a cash-out refinance creates more debt against your home. If you fall behind on the loan payments, you could risk foreclosure.
On the other hand, you could improve your financial situation if you use the lump sum from a cash-out refinance to pay off high-interest debt, like credit cards.
Reverse mortgage
A reverse mortgage is a refinancing option for homeowners aged 62 or older. It allows them to convert home equity into cash without making monthly payments until they pass away or move out.
Retirees often use reverse mortgages for supplemental income. But it’s not free money—you or your heirs will have to repay the loan, plus interest, once it becomes due.
Pros and cons of refinancing your home
Advantages
Refinancing can lower your interest rate and mortgage payment
If rates have fallen since you took out the original mortgage, the savings can often be significant. For example, if you owe $100,000 on your home with a 9% APR, a 1% drop in interest rate might save you around $71 a month on your payment. That’s $25,509 in interest over the life of the loan!
It allows you to adjust to family changes
Refinances are often necessary for major life changes, such as a divorce. For example, if you have cosigned on a mortgage with your partner and you or your partner wish to no longer be responsible for it, the other must refinance the mortgage in their own name. You’d also need to refinance to add someone to your mortgage.
You can get cash from your home
Refinancing can provide cash for home improvement projects or to consolidate debt from credit cards or unsecured loans. One of the most important benefits of homeownership is the opportunity to tap your home equity for major expenses. Another benefit is the convenience of having a single monthly payment instead of taking out a separate loan.
You can cancel mortgage insurance
Homebuyers who are unable to make a down payment of at least 20% of the home price are often required to carry private mortgage insurance (PMI), which is built into the mortgage payment. Once a homeowner has at least 20% equity in their home, PMI is no longer required. You must refinance your mortgage to drop PMI, but it can be worth it in many cases for the savings on your monthly payment.
Refinancing can reduce your monthly payment
If your mortgage payment is currently too big for your budget, you can reduce it by refinancing into a loan with a longer payoff time frame. For example, if you have 20 years left on your loan and you refinance into a 30-year payment, your debt will be spread over 10 additional years and your monthly payments will drop as a result. But keep in mind that the total amount of interest you pay will increase when you take longer to pay off the debt.
Disadvantages
Refinancing has closing costs
Closing costs often total 3% to 5% of the total mortgage cost. While many mortgages allow you to roll those costs into the mortgage, that may cancel out any savings you might gain from refinancing.
It may temporarily hurt your credit
As with any new loan, there’s often a short-term adverse effect on your credit, especially since the lender has to pull your credit to make their decision. If you have other credit needs in the near future, such as a car purchase, you should take those into account.
Your current mortgage may have an early repayment fee
Some mortgages have a penalty for early repayment. They’re not common and usually only apply within the first three to five years, but this could make a big difference in whether a refinance would be worth it for you.
It could hurt you financially if you get the timing wrong
Apply for a mortgage refinance at the wrong time, and you could end up with bigger payments and a delayed payoff date. There are some situations where you need to refinance whether it’s the most advantageous time, like a divorce. If you’re refinancing by choice, though, it pays to consider your individual circumstances.
When is the best time to refinance your mortgage?
If interest rates are down, it could be a good time to consider refinancing. It’s nearly impossible to predict when interest rates on mortgage refinancing will fall. Still, it can pay off to keep an eye on the market.
Experts generally recommend refinancing if you can reduce your rate by at least 0.75%, but it might be worth refinancing for an even smaller reduction. Refinancing can also save you money if it gets you out of an adjustable-rate mortgage and into a fixed rate.
Is refinancing right for you?
For many families, refinancing is a smart move. It can help you take advantage of lower interest rates or pull equity out of your home. But it’s usually best to wait for interest rates to drop.
If it doesn’t feel like the right time, it can help to be proactive. You can work on gaining equity in your home, getting your credit in good shape and comparing fees from multiple lenders.
Homebuyers who put in the work—even to shave off just a fraction of a percentage of interest— may see a big payoff.
Frequently asked questions about how to refinance a home
How often can I refinance my home?
In most cases, there’s no legal limit on how many times you can refinance your mortgage. Some lenders enforce a “seasoning” period between the closing of one loan and a new refinance, usually about six months.
But every time you refinance, closing costs and fees are involved. Even if your interest rate will be significantly lower than the original mortgage, you’ll need to stay in your home long enough for the savings to outweigh the up-front cost of refinancing.
How hard is it to refinance your home?
Refinancing your home is like taking out your original loan, so you can expect it to take the same amount of time and need the same paperwork.
Like your first mortgage, you should get loan estimates from multiple lenders to see which offers the best interest rates and terms based on your credit score.
Do I need a down payment to refinance?
You usually don’t need a down payment to refinance, so that’s one difference between refinancing a home and taking out a traditional mortgage.
That said, you will need enough to cover your closing costs, unless you do a no-closing cost refinance or find a lender that will let you roll those costs into your loan.
Written by Cassidy Horton | Edited by Rose Wheeler
Cassidy Horton is a finance writer who’s passionate about helping people find financial freedom. With an MBA and a bachelor’s in public relations, her work has been published over a thousand times online by finance brands like Forbes Advisor, The Balance, PayPal, and more. Cassidy is also the founder of Money Hungry Freelancers, a platform that helps freelancers ditch their financial stress.
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Eligibility for a home equity loan or HELOC up to the maximum amount shown depends on the information provided in the home equity application. Depending on the lender, loans above $250,000 may require an in-home appraisal and title insurance. Depending on the lender, HELOC borrowers must take an initial draw of the greater of $50,000 or 50% of the total line amount at closing, except in Texas, where the minimum initial draw at closing is $60,000; subsequent HELOC draws are prohibited during the first 90 days following closing; after the first 90 days following closing, subsequent HELOC draws must be $1,000, or more, except in Texas, where the minimum subsequent draw amount is $4,000.
The amount of time it takes to get funds varies. It is measured from the time the lender receives all documents requested from the applicant and depends on the time it takes to verify information provided in the application. The time period calculation to get funds is based on the first 4 months of 2023 loan fundings, assumes the funds are wired, excludes weekends, and excludes the government-mandated disclosure waiting period.
For Texas home equity products through Prosper, funds cannot be used to pay (in part or in full) non-homestead debt at account opening.
Depending on the lender, qualified home equity applicants may borrow up to 80% – 95% of their primary home’s value and up to 80% – 90% of the value of a second home. In Texas, qualified applicants may borrow up to 80% of their home’s value. HELoan applicants may borrow up to 85% of the value of an investment property (not available for HELOCs).
Home equity products through Prosper may not be available in all states.
All home equity products are underwritten and issued by Prosper’s Lending Partners. Please see your agreement for details.
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