If you’ve built up equity in your home, you have a financial resource that you can use to help you meet your goals. That’s good news if you’re hoping to renovate your home, retire and travel around the world, or pay for your child’s college tuition. Fortunately, there are a wide variety of mortgage refinance products to help borrowers get what they need from their home.
What Is A Mortgage Refinance?
When you purchased your home, you most likely applied for a mortgage to pay for it. But now that you’ve been in the home for a few years, you might be considering a mortgage refinance, or getting a new – and better – mortgage to replace your current mortgage.
In most cases, a refinance means you go through the loan application process all over again. That means you’ll have to factor in closing costs, including a new appraisal, before deciding on whether a refinance is right for you. Once your loan is approved, a new closing day is scheduled, and the proceeds of the new loan are used to pay off the old mortgage.
7 Different Types Of Refinance Loans
If you have a financial need and you own a home, chances are good there will be a mortgage product designed to help you.
1. Rate-And-Term Refinance
A rate-and-term refinance means you are looking for a better mortgage than you were able to get the first time around. This traditional form of refinancing is perfect for those who want to lower their monthly payments, get rid of MIPs on their FHA loan, extend or shorten the length of their loan term, or refinance their adjustable rate mortgage, or ARM, with a 15- or 30-year fixed-rate mortgage to lock in at today’s historic low interest rates.
Maybe your credit score is much higher now than it was when you first applied, or your income has risen and you want to pay off your mortgage more aggressively. Or maybe you’ve paid down some debt and have a much lower debt-to-income, or DTI, ratio. It’s quite possible that you’ll lock down a substantially lower rate if your credit score has moved up a bracket or two since the last time you applied.
Let’s say you bought a house in 2010, when your credit score was 650. We’ll assume your mortgage interest rate was 5.5% because you had to pay a bit extra because your credit score was relatively low. Now let’s assume that your current credit score is 750, and you apply for a refinance. You might save as much as $400 in monthly payments.
What if you needed to lower your monthly mortgage payment even more drastically, as in the case of a divorce, or the death or disability of a spouse? Again, assuming you bought your home in 2010, you could refinance the balance of your mortgage with a 30-year fixed-rate loan to stretch those monthly payments out over a longer period of time, thereby lowering your monthly payment further still. You will pay more over the long term with this approach, but if your financial situation improves later on, you can always refinance again.
2. Cash-Out Refinance
In terms of the application process, a cash-out refinance is just like a rate-and-term, but the consequences for the borrower are different. Instead of keeping the accumulated equity in the home, the homeowner gets a check on closing day for whatever equity they seek to remove from the home.
If the borrower takes the cash and invests it back in the home, thereby increasing its resale value, the borrower is in approximately the same position, from a loan-to-value proposition, as they were before. In other words, they owe more, but they also own more. If, however, they use the cash-out for some other purpose, they’ll simply owe more.
3. Cash-In Refinance
With a cash-in refinance, you put a lump sum amount of money into your mortgage, either to lower your monthly payment, to build your equity up to 20% so that you can cancel PMI or MIPs, or to shorten your mortgage repayment period. Think of it as a way to make a down payment at any point during your ownership of the home.
4. Streamline Refinance
If you have a government-insured mortgage, such as a Federal Housing Administration (FHA), Veteran’s Administration (VA) or U.S. Department of Agriculture (USDA) loan, you may qualify for a streamlined refinance process. Streamlines require very little paperwork and no new appraisal, so closing costs are low.
The FHA Streamline Refinance does not require a new round of credit or income verification, or a new DTI calculation. Neither do the VA or USDA Streamline programs. Borrowers can qualify for rate and term refinance if they:
- Have an existing FHA mortgage
- Have made 3 months of on-time mortgage payments
- At least 210 days have passed since you purchased or refinanced your home
- Can show a clear monetary benefit to refinancing, either by showing that your monthly payments will be reduced or your repayment period will be shorter
- Can lower your interest rate by at least 0.50%, in most cases
After the 2008 financial crisis, many homeowners found themselves underwater on their mortgages. In response, the Federal Housing Finance Authority introduced the Home Affordable Refinance Program (HARP), which allowed those who owed more on their mortgages than their homes were worth to refinance at lower rates. That very popular refinance program expired in 2018.
But the problem of underwater mortgages has not gone away entirely, and in 2018, government- sponsored enterprises Fannie Mae and Freddie Mac introduced their own programs for underwater mortgage relief. Fannie Mae created the High Loan-to-Value Refinance Option (HIRO) while Freddie Mac dubbed its program Freddie Mac Enhanced Relief Refinance (FMERR). Both programs allow homeowners with low or negative equity in their homes to refinance to take advantage of current low interest rates, which may ultimately prevent mortgage defaulting.
6. No-Closing-Cost Refinance
The main drawback of refinancing is having to pay closing costs. Some lenders offer no-closing-cost refinance options. Of course, that doesn’t mean that there are no closing costs – it simply means that those costs will be rolled into the mortgage, by adding the costs to the principal, or charging a higher rate for the loan. If you aren’t planning on staying in the home more than 5 years, a no-closing-cost refinance may save you money compared to paying closing costs upfront and out of pocket.
7. Reverse Mortgage
If you’re 62 or older, a reverse mortgage is a type of refinance that can help you to pay off any outstanding mortgage obligations, or, if you own your home free and clear, by paying you the equity you’ve built up in your home, either in a lump sum or in regularly scheduled payments. During the lifetime of the borrower(s), no loan repayment must be made.
During the borrower’s lifetime, the borrower need only pay their property taxes and keep the home in good repair. Any interest on the reverse mortgage is simply rolled into the loan. The borrower may, if they wish, make interest payments to reduce the loan balance during their lifetimes to increase the value of their heirs’ inheritance.
The loan doesn’t come due until the last borrower living in the home passes away or moves out. At that point, the home is sold and the reverse mortgage lender pockets the proceeds up to the loan balance, with any remainder going to the home owner’s heirs.
To be eligible for a reverse mortgage, you must meet the following criteria:
- You must be 62 years or older.
- You must have enough equity in your home. Generally, homeowners should have at least 50% equity in the home, but the required equity varies by lender.
- You must attend a counseling session from a Department of Housing and Urban Development-approved counselor to learn more about the loan and your options
- You must go through a financial assessment to ensure you are in the best position to be successful with your loan.
Along with these requirements, your home also needs to qualify for the loan, because it provides the security for the loan. Here are a few basic requirements:
- The home must be your primary residence.
- The home must be in good condition and meet FHA standards.
- The home cannot be a mobile or manufactured home.
- If the home is a condo, it must be on the HUD/FHA approved condo list. If it isn’t, you may still be eligible for a proprietary reverse mortgage.
This list is not exhaustive. If you have equity in your home, you’ve got myriad options developed specifically to help you tap it to meet your financial needs. Want to talk to someone to learn more about your refinance options? Chat with us online, or call one of our refinance specialists today.