Written by Charlie Park of Pear Budget.
Last week, Tsh shared her story of how to get a mortgage without a credit score. I loved her post, and am impressed by how intentional she and Kyle are about paying off their new mortgage.
“But money’s tight!” You’re saying. “I don’t have any extra cash to use to pay my mortgage off early!” I hear you, friend. Today we’re going to talk about a simple way that you can cut several years off your loan (or free up some extra money in your budget), by refinancing your mortgage. It’s not too hard, and we’ll cover the basics.
Photo by Images of Money
What is refinancing, anyway?
Back when Sarah and I bought our house, our mortgage’s interest rate was somewhere around 7%. At the time, people told us we were lucky to lock in at such a low rate. But over time, rates dropped even more. (Right now, they’re around 4%!)
Refinancing a house is basically trading in one mortgage for another one. The new mortgage will probably be slightly larger than what you still owe on the old one, but the interest rate will probably be less. The bottom line: You’ll probably pay less each month (in our case, $150 less per month), and you’ll probably spend way less over the course of the mortgage.
Having an extra $150 would give us more money for our budget, or we could keep paying that money towards our new mortgage, and we’d cut eight years off our payments without paying an extra dollar. It was a no brainer.
Should you refinance?
That’s a good question, and (as with all things money) it depends on a number of factors. If you can answer yes to the following questions, it makes sense to look into refinancing:
- Have you had your mortgage for less than 10 years?
- Are you currently paying more than around 5.5% in interest?
- Are you going to be in your house for more than two years?
Each of those questions speaks to factors that affect mortgages, and the math can get a little tricky. Thankfully, there are free online calculators that’ll do the math for you and help you figure out if it makes sense to refinance.
Photo by Dave Kliman
How do I refinance?
1. Decide on your goal
If your primary goal is to free up money in your monthly budget, you probably want to go with a 30-year fixed-rate mortgage (what Sarah and I did). You’ll have a slightly higher interest rate than a 15-year mortgage, but there’s less due each month (and you can usually pay more than the minimum if you want to pay it off more quickly).
If you chiefly want to pay your mortgage quickly and with the least amount of interest possible, you’ll probably want to go with a 15-year fixed-rate mortgage (what Tsh and Kyle did). You’ll have to pay more each month, but you’ll be done with your mortgage in half the time.
One commonly-advertised kind of mortgage you’ll want to avoid is an adjustable-rate mortgage. (Avoid! Avoid!) These loans can change their rate over time, so your lovely low rate now can jump higher in years to come.
2. Shop around
You’ll want to find out from the lenders:
- What rate can they offer you?
- What are all the fees associated with the loan and the refinancing?
- Are there any pre-payment penalties with the mortgage? (Boo!)
We got rough rate quotes from all of them, and ended up going with Quicken Loans, because they offered us the best terms. (Although we like supporting a local bank with our checking accounts, we found that the national banks and large-scale lenders offered better mortgage rates.)
We worked with a great agent, Rob McKenney, who talked us through everything on the phone in about 10 minutes. (You can call him direct, if you want: 1-800-226-6308 x31992. I don’t benefit in any way by mentioning him!)
As you consider the offers from different lenders, check the fine print to be sure that the loans you’re comparing have similar terms (some lenders will try to bait you with a low adjustable-rate, then switch on you).
After you’ve chosen your lender, they’ll need paperwork like income statements and copies of your tax returns. They’ll walk you through this. Our lender even had a slick online interface that showed what we still needed to turn in.
The lender will also do a title search to make sure you actually own the house and that there aren’t any liens on it or other things that might cause problems. They also might send out an appraiser to give them a good estimate of what the house is worth. (A good excuse to clean up!)
4. Sign the papers
Our lender sent a notary public to us to do the signing, but if you’re working with a bank, you’ll probably just go to their office to sign the papers. We signed the papers, and that was it. It wasn’t bad.
All told, it takes about a month (sometimes a little less) to go through the process. And, in the end, we have $1,800 a year to go towards other things in our budget!
Refinancing isn’t for everyone, but if you’re looking to free up some money — or pay down your mortgage faster — refinancing could make a lot of sense.
Have you refinanced recently? Did I miss any of the key hoops that you had to jump through, or considerations you had to factor in to your decision? And if you have refinanced, what did you do with the extra money each month?