Q1. What does refinancing mean?
Ans. When a borrower decided to refinance, he/she pays off the existing mortgage and creates a new one. It is is often used by borrowers (with sound credit histories) to obtain a lower rate of interest.
Q2. Why consider refinancing?
Ans. The option of refinancing will be attractive to borrowers who are looking to achieve the following objectives:
- a) Lowering the interest rate
- b) Adjusting the length
- c) Switching between adjustable rate to fixed rate
- d) Getting cash out from equity in home
Q3. What are the two major types of refinancing?
Ans. The two major types of refinances are—
- a) Rate and term financing
- b) Cash out financing
A borrower must go for the rate-and-term financing to save money. Under this scheme, he/she refinances the remaining balance for a lower rate of interest for the remaining term.
Alternatively, in cash-out refinancing, the borrower takes out a mortgage for more than what is owed. The difference may be used to pay off the existing debt.
Q4. Does borrower credit play a role?
Ans. Yes, a borrower’s credit score history plays a vital role in securing a good rate. In fact, he/she needs a good credit score to qualify for any kind of loan at all. Therefore, borrowers with credit scores of 720 or above can expect the lowest rates. And borrowers with scores less than 620 will have trouble qualifying at any rate.
Q5. When is refinancing not a good idea?
Ans. Refinancing may prove detrimental to the borrower’s finances under the following circumstances:
- a) The borrower has had mortgage for a long time
Simply put, in the later years, a greater chunk of your regular payment applies to principal and thus helps build equity. By refinancing late, the borrower will restart the amortisation process, and most of the monthly payment will again be credited to paying interest.
- b) It has a prepayment penalty
The borrower may have to pay prepayment fees if they pay off their loan early, including for refinancing. Thus, he/she must carefully weigh costs against savings expected from refinancing.
- c) The borrower plans to move from home in the next few years
If the borrower plans to change homes, then the monthly savings accruing from lower monthly payments may not exceed the costs of refinancing. A break-even calculation will help the borrower determine whether it’s worthwhile to consider refinancing in the case at hand or not.
Q6. Who is eligible for refinance?
Ans. Eligibility for refinancing is determined in the same way as that for any usual mortgage. The lender will take into account your income, assets, credit score, other debts, current value of your property, and the amount you want to borrow.