Refinancing your mortgage can be a huge and possibly scary financial decision. You need to ask questions about credit scores, fees, and interest rates, and each factor requires careful consideration. Take a deep breath and gather information, because a little education can put these fears to rest.
Credit Report Damage
Applying for refinancing gives the lender permission to run your credit report. This counts as a hard inquiry, which can drop your credit score, although the amount is typically small and can easily be offset by keeping up your payments over time.
However, more than one hard inquiry in a short period can take a larger toll on your credit score. Minimize the damage by reducing the number of hard inquiries in the six months leading up to the refinancing. Don't apply for any new credit cards or an auto loan, as these also count as hard inquiries.
Refinancing fees vary depending on the lender, state and other details specific to a particular loan. According to the U.S. Federal Reserve, it's common to pay up to 6 percent of the outstanding loan principal in fees. The Reserve also offers a list of the common fees with the average costs:
- Application fee: $75 - $300 (often nonrefundable) note: Lenda does not charge an application fee.
- Appraisal fee: $300 - $700
- Inspection fee: $175 - $350
- Closing fee: $500 - $1,000
Fortunately, these financing fees can be minimized. For instance, if your home has recently been appraised or inspected, the lender might allow the official documents from those visits to count toward the application and negate those application costs. You should ask about application fees up front to see if they are refundable if the refinancing attempt fails.
Sudden Interest Rate Changes
Mortgage interest rates are constantly changing. The refinancing process can take months, so it's easy to worry that interest rates will change sharply. To combat this fear, consider using a contract provision that locks in a set rate during the refinancing process.
A common method of doing this is called a rate lock. The lender and borrower agree to lock the refinancing at whatever interest rate is current on the day the paperwork is issued. This number is set in stone, so the lender can't raise it if rates go up, and the borrower can't benefit from falling rates.
A rate lock is good for both parties if rates stay the same. If rates fall so much that the locked-in rate no longer looks fair to you, the borrower, you would have to walk away from the application, start the process again, and possibly lose any application fees paid.
Borrowers who fear swiftly falling rates can use a float-down rate lock. A float-down still locks in an initial rate but offers the option of lowering the interest if rates dip during the refinancing process. A borrower can only exercise this option once. The catch is that float-downs cost more than a traditional rate lock. The lender charges a certain number of points, usually equal to 1 percent of the mortgage's total amount, to allow a float-down.
Still have fears about the mortgage refinancing process? Download Lenda's free E-book to learn more.