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| | BobVila.com > Channels > Finance > All Articles > Refinancing Your Home
Refinancing Your Home
Stored equity is like a piggy bank waiting to be opened. You may be surprised to find out how much your home is worth.
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Your house is like a nest egg. Equity is stored inside and taken out as cash. By refinancing, you can use that equity to reduce debt or free up some necessary dollars.
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It’s hard to believe the couple down the street can sell their house for that amount—so just imagine what your home would be worth on the market!
That’s what equity is all about. Homes that appreciate over time due to demand, economics, or home improvements are like savings accounts that guard your stash of cash. If you’re looking to find extra money, pay for college, pay off debt, or reconfigure your existing debt, a good place to look is at the built-up equity in your home. By refinancing your existing mortgage, you may be able to take some cash away, reduce your monthly payments, or move closer to ownership. There are many reasons for refinancing, all of which focus on the value that has accrued in your home.
Refinance to Capture Equity
Many homeowners see their homes as a sort of savings account and choose cash-out refinancing. With cash-out, they take out a larger home loan to pay off the previous mortgage and have money available to them. The extra cash might fund a college education, a home improvement project or a major trip. With this type of refinancing, a lender requires a homeowner to have at least 5 percent equity accumulated in the home.
Lower Monthly Bills
The most common reason to refinance is to obtain a lower mortgage rate and reduce monthly mortgage payments. It’s definitely time to consider refinancing if you plan to remain in the home for several years and the interest rate has dropped at least one percentage point below the existing home loan rate. This is especially true for homeowners whose questionable credit history has forced them to buy their homes with high-interest loans. A consistent payment history could now make them eligible for a better interest rate.
Depending on job situations or the economic climate, some homeowners are refinancing to lock in a good rate as they switch from an adjustable-rate mortgage to a fixed-rate mortgage. A fixed-rate loan will provide a guaranteed monthly payment amount for the life of the mortgage, which is reassuring when interest rates start to climb.
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Lower Payments
The divorce was final and Donna had received the house in the settlement. In an effort to show her independence, she decided to refinance at the same amortization schedule they had been on together. She had a good job and would do just fine, thank you. A year later, after her anger had subsided and she had gotten back into life, she found that the 5.00 percent APR 10-year schedule she had locked herself into was a tight squeeze. The monthly $1,060 payments left her with little extra cash to spend on vacations, for fun with friends, or to put into savings. She checked around and found that through her present lender she could save the $350 appraisal fee and reduce closing costs to $650 if she refinanced the $100,000. She locked in a 5.50 percent rate for 15 years. At the new schedule although she would pay more in interest in the long run—she could feel more at ease paying $817 a month.
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Cash-Out Equity
Molly and Ray had high-paying jobs. They had paid down their $250,000 home loan to 60 percent, or $150,000, of the loan amount. With higher-interest credit card balances from a long-awaited anniversary holiday and a boat loan, they decided to access some of the equity in their house with a cash-out refinance. The closing costs of $2,000 would be added to the $23,000 in equity taken out. The new mortgage amount was $175,000, held to the same loan term and at an interest rate just slightly above the present one.
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Improve Fiscal Management
There are also homeowners who took out 30-year mortgages but have seen an improvement in their financial situations and want to refinance at a better rate or repayment schedule. They may be benefiting from increased salaries, inherited money, or the switch to a two-income household. Refinancing at a lower rate with minimal closing costs would allow them to build equity faster and reduce the total interest they will pay by switching to a shorter term mortgage. On the other hand, refinancing can also help reduce the burden for those whose financial situation has worsened by lessening the payments or easing the repayment schedule.
Watch the Fees
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Take the time to calculate and compare your options. If you will not see payback within the number of years you plan to remain in the home, refinancing may not be right for you.
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Refinancing involves much of the same fees and paperwork as the original mortgage. Title insurance, employment verification, and a credit review will be necessary, as well as a review of your current monthly payments, outstanding mortgage balance, and current status on property taxes and homeowner’s insurance.
When refinancing, many of the same fees will need to be paid again. Check with your current mortgage holder to see whether they are willing to negotiate those fees and what rate they are offering. The lender may be willing to waive many, if not all, of the fees, so be sure to comparison shop and negotiate before signing an agreement.
Calculate Before Refinancing
The two most important factors to consider when looking to refinance are the cost of refinancing and the length of time you intend stay in the house. Calculate the date by when you expect to break even—recuperate your fees and closing costs and begin to see a genuine savings. If that date is beyond your expected move date, then refinancing does not make sense.
Also, beware of fluctuating real estate markets. If the value of the house has decreased rather than increased, the lender may decide not to refinance the home to its previous level, which could put you in an even worse situation.
Check Before You Refinance
Check your mortgage contract. While lenders may accept extra payments toward your home loan, they may have a prepayment penalty if you want to pay off the mortgage within a particular timeframe. In addition, some lenders will require a larger loan amount if a homeowner wants to refinance just to get a lower interest rate.
Text by Maureen Blaney Flietner
Copyright BobVila.com © 2005
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