How to Refinance: A Guide to Refinancing Your Mortgage

Refinancing is one of the most common ways to access your home’s equity, and it can be beneficial in a variety of ways — but there are some things to be aware of before you begin the process.

What Is a Refinance?

A refinance is the process of taking out a new mortgage loan. However, it’s important to note that there are two primary types of refinances. A rate-and-term refinance is one in which the borrower is seeking a lower interest rate or better terms on their mortgage. With a cash-out refinance, a homeowner takes out another mortgage that has a larger balance than their original one in order to receive the difference in cash — typically, a cash-out refinance is used in cases where the homeowner is looking to achieve another financial goal such as pay for renovations or education or pay off debt.

Why Might You Want to Refinance?

There are a few reasons you may want to refinance — the main one being that you’ve built up equity in your home and want to tap into it to access cash without having to sell your house.

It can also be advantageous to refinance as it may allow you to secure a lower interest rate or shorten the term length of your mortgage, and many homeowners choose to refinance during times of particularly low rates. If your original mortgage was an adjustable rate mortgage (ARM), a refinance can present a good opportunity to switch to a fixed-rate mortgage.

If you’ve built up at least 20% equity in your home, you may also be able to use a refinance to eliminate private mortgage insurance (PMI), which is racked onto mortgages when homebuyers don’t have a sufficient down payment amount.

Pros and Cons of Refinancing

On the plus side, as mentioned above, refinancing can also help you secure a lower interest rate on your mortgage as you’re essentially replacing your first mortgage with a new one. With a cash-out refinance specifically, as the name suggests, you’ll be able to use the difference between mortgages in cash and put it towards necessary expenses.

However, there are some downsides to be aware of as well. If you’re shortening the term of your mortgage, this means that your monthly payments will go up as a result, so it’s important to make sure that you’re prepared to handle the increase.

And since you’re taking out an entirely new mortgage, you’ll have to deal with the same fees you paid the first time around, including application and origination fees, closing costs, and potentially appraisal fees.

Steps to Refinancing

If you decide a refinance is right for you, you’ll need to apply to kick off the process, either with your current mortgage lender or a new one.

• Shop around to compare rates

Before you settle on one lender, make sure you’re getting the best rate you can find by applying with at least a few different lenders. Contrary to popular belief, it probably won’t negatively affect your credit score to apply for multiple refinances — as the majority of credit scoring models acknowledge this practice and factor it into their evaluation. Usually, this means that multiple inquiries made within 14 to 45 days will only be counted as one.

• Gather all of the required documentation

Not only will you need to provide current mortgage and financial statements to the lender you choose to apply with, but looking at the details of your current mortgage will better help you compare different estimates from competing lenders.

• Select a lender

Once you’ve received multiple quotes, you can evaluate the rates and determine what makes sense for you. You’ll typically need to make a decision fairly quickly — within 10 days or so — before your rate estimate expires.

• Close on your loan

After some additional steps like paying an appraisal fee and having your loan approved by the lender’s underwriting team, the final step is to schedule a time to sign your documents to confirm the refinance.

How Much Equity Do I Need to Refinance?

While the amount of equity you need to refinance is dependent on your lender, most typically require that you have at least 20% of your home’s value to qualify; while you may still be approved with less than that, other evaluation criteria — like your credit score — may need to be higher to compensate. Generally, the higher the amount of equity you have in your home, the easier it is to qualify for a refinance. 

Alternatives to Refinancing

Fortunately, if a refinance doesn’t make sense for you, there are several other options to consider, especially if you’re seeking to tap your home’s equity to access cash.

A home equity loan is one of the most common, and on the plus side, it provides you with a lump sum of money and a fixed interest rate, so monthly payments are predictable. However, you’ll be responsible for monthly payments on top of your mortgage installments, so you’ll need to prepare for this extra cost.

A home equity line of credit gives you flexibility in terms of the amount of funding you can access and the frequency with which you can access it, but the variable interest rate makes for unpredictable monthly payments that fluctuate.

Finally, a home equity investment can also help you tap into your equity. You can use the cash for whatever you’d like and there aren’t any monthly payments to worry about. Instead, you settle the investment at the end of the effective period with a percentage of the home’s market value. 

The more you know about your home equity, the better decisions you can make about what to do with it. Do you know how much equity you have in your home? The Home Equity Dashboard makes it easy to find out.

Ultimately, whether a refinance makes sense depends on your own personal financial situation and goals — so it’s important to weigh your options to ensure you’re making the best decision for you.