Avoiding these common mortgage refinancing mistakes will help you accomplish your goals when you refinance a mortgage.
Mortgage Refinancing: 10 Common Mistakes to Avoid
There are several good reasons to refinance a mortgage--it can help you lower your interest expense, make your monthly payments more affordable, give you access to home equity, and/or consolidate other debts. Whatever your mortgage refinancing goals, you'll increase your chances of attaining them if you avoid these common mistakes:
- Failing to act when interest rates fall. Mistakes of omission can be just as costly as mistakes of commission. Interest rates can move quickly, and especially when the economy is more volatile. If you miss a spike down in interest rates, you might never get another chance to lock in such inexpensive mortgage rates. You should familiarize yourself with the topic of mortgage refinancing in advance, so you can be ready to act when an opportunity presents itself.
- Not accounting for how long you plan to stay in the home. Refinancing typically involves an up front cost that can pay off in the form of lower interest rates over time. However, if you plan to move in the next few years, you may not have enough time to recoup the closing costs involved in refinancing.
- Considering mortgage rates only, and not monthly payments. People almost always talk about refinancing in connection with lower interest rates, and certainly those are the best conditions under which to refinance a mortgage. However, you can also refinance to manage your monthly payments, such as by stretching your remaining balance out over a longer period of time.
- Considering payments only, and not mortgage rates. Conversely, the lowest monthly payment is not always the cheapest option in the long run. If you can comfortably afford a higher monthly payment, then choosing a shorter-term mortgage might earn you a lower mortgage rate.
- Failing to consider home equity opportunities. When you refinance, think about whether you might have use for a home equity loan in the near future. A cash-out refinancing could accomplish two goals in one move, by improving your mortgage terms and tapping into home equity. This would save you a round of closing costs. On the other hand, if you like your current loan, adding a home equity loan is a low-or-no-cost option for getting cash out of your house.
- Ignoring changes in credit history. Regardless of whether market rates have moved up or down, your credit history will have a profound effect on the interest rate you get. On the one hand, if your credit rating has deteriorated, you may have a hard time getting a better mortgage rate by refinancing. On the other hand, if your credit rating has improved, you might be eligible for a lower mortgage rate, regardless of whether market rates have dropped.
- Not considering fees and expenses. Because there are costs involved in refinancing, you can't make money by refinancing with every incremental decrease in interest rates. Besides the fees and closing costs you encountered when you took out your first mortgage, you'll want to see if there is a penalty for paying of your existing mortgage early. Use a mortgage calculator to figure out whether the drop in interest rates is enough to compensate you for the other expenses involved.
- Not comparing mortgage lenders. Don't limit yourself to your existing mortgage company. The opportunity to refinance should include an opportunity to shop around and find the most competitive mortgage lender.
- Thinking FHA loans are just for first-time buyers. People often associate FHA loans with first-time buyers, and they are a terrific way of entering the housing market. However, you can also refinance with an FHA loan, and in fact, the process might be expedited if you are refinancing one FHA loan to another--this is called streamlining and and may even help you avoid a credit check and appraisal altogether.
- Increasing loan risk with variable payments. One big source of mortgage defaults and foreclosures has been people who found their mortgage payments suddenly rising, including people who had refinanced out of a more stable form of mortgage. Mortgages with adjustable rates or variable payment options may have the allure of sharply lowering your immediate payments, but you should be aware of the risk involved in leaving yourself open to rising payments in the future. There are reasonable uses for these kinds of mortgages, especially if you have reason to expect an infusion of cash a year or two down the road, or plan to sell your house in a few years (though watch out for mistake #2). Otherwise, fixed-rate mortgages mean more stability.
Market conditions change all the time, and so can your personal circumstances. Therefore, you should review the possibility of refinancing at least once a year, and more frequently when mortgage rates drop sharply.
Richard Barrington is a freelance writer and novelist who previously spent over twenty years as an investment industry executive.