Ask Home.Loans: How Does Refinancing Work?

So how does refinancing work, anyways?

Your home is your castle, but sometimes even the best castles can stand to have the moat dug out a little deeper or their battlements reinforced after a particularly harrowing attack by marauding knights. Borrowing money for those items on your credit alone can be tricky, which is why banks offer you multiple options to tap your home’s equity, including the choice to refinance your current mortgage.

What Happens When I Refinance?

If this is the first time you’ve considered a mortgage refinance, you probably have a lot of questions. The number one question is often simply, what happens when I refinance my home? It’s really a lot more straightforward than you might imagine.

For you, the process is much like what happened when you got your purchase loan. This time, though, instead of having to negotiate with a seller every few steps, it’s a two-party transaction limited to you and the bank of your choice.

Refinancing: Getting a Newer, Better Mortgage

When you refinance, your old mortgage is replaced by a new one. If you selected a different lender from the one that is currently servicing your note, the new bank will send the old one a check to pay off your entire mortgage, including interest to the date the new note begins.

You never have to talk to the old servicer again, though you may receive a check in the mail up to several months after the new loan starts equal to the full amount of your escrow account balance. Since they’re not paying your taxes or insurance anymore, that money is yours to do with as you will.

If you’re getting your new loan from the same bank that currently services the old one, you may be eligible for a “streamline” refinance. This refinancing option really simplifies the process and takes a lot less paperwork than getting a whole new lender. Since your bank is still your bank, it’s easy for them to pay themselves off, handle escrows, and simply update your information on file.

Why Should I Refinance (Or Not)?

If you’re wondering when’s the right time to refinance, there are a few concrete signs to look out for. Some of the best reasons to refinance include:

Improving your interest rate. Although interest rates are slowly creeping up, you may be better off with a refinance. There are plenty of mortgages out there that still have rates of seven percent or higher. Knocking that down to something under five percent can make a big impact with the right note.

Reducing your loan term. Thirty years is a long time to make the same monthly payments. Even though you can often prepay your note without penalty, some borrowers find they lack the discipline to do so. Converting your 30-year note to a 15- or 20-year term will force you to pay more toward your principal, and save you thousands in interest over the years.

Changing from a variable to a fixed rate. Lots of borrowers start out with a longer term adjustable rate mortgage in order to bring their debt to income ratio into line with lending guidelines. If you plan to stay in that house beyond the adjustment period, though, it’s a good plan to secure your payment with a fixed rate mortgage refinance to avoid unpleasant surprises.

Cashing out some equity for home improvement projects. Equity is good for lots of things, especially when it comes to home improvement! Buy a new bathroom, build an add-on or do some incredible stuff in the landscape with the pennies you’ve been tossing into your home mortgage over the years.

What are the Steps in a Mortgage Refinance?

Besides all the mental preparedness and deciding what to do with the fat check you may or may not get at closing, there are several steps to securing a new mortgage on your old home. These are:

1. Application. If you already know which bank you want to handle your new mortgage, you only need make one application. However, if you’re interested in shopping around, make sure to do all your looking within a 14- to 30-day window so your credit score is protected against the multiple inquiries. Use the Loan Estimate form to compare your offers. It’s an easy-to-read form that has estimates about everything to do with your loan, from the amount you will pay under the new terms to how much you’ll get back at closing.

2. Appraisal. Since you’re not buying a strange house from a stranger, there’s no need to wait for home inspections (though you can have them done any time you want!). However, you probably will need an appraisal. Some streamline refinance programs will give you an appraisal-free option, but these notes are very limited in how much you can cash out and how dramatically you can change your terms. Larger cash outs or moving to a new bank will usually require an in-the-flesh appraiser to check out your home to determine its current value.

3. Underwriting. Once all the information your new bank needs has been collected, including your financials and your current home appraisal (when applicable), underwriting makes their decision about whether or not they’ll give your loan the thumbs up. Usually, this is no problem, provided the picture you painted at application time is nearly identical as it is at the time your package goes to underwriting. Remember, a lender can revoke your loan approval any time before you sign the closing documents, so don’t take out new credit, charge up existing credit, or sneeze until after your new mortgage closing date.

4. Closing. Hooray, you made it! By now, you’re ready to sign anything anyone puts in front of you, but try to resist the urge. Read every document carefully to ensure that you’re agreeing to the note you think you’re agreeing to. Although uncommon, it’s not impossible to have a very different idea than the bank does about what your new mortgage should look like. Most likely, though, everything will be exactly what you’re expecting. If this is the case, sign the paper, take the check, and run to the home improvement store to claim your brand new kitchen.

5. Post-Closing. With a refinance, you have an extra step in your mortgage process. It’s known as the three day right of rescission. In short, this is a three day window in which you can change your mind about refinancing. Maybe you got home and looked over your closing docs again and found a problem, maybe you just really decided you love that tiny bathroom and it doesn’t need to be any bigger. It doesn’t matter your reason, you have the right under the Truth In Lending Act to give back the check, tear up the new mortgage note and go back to your old lender. Your team will sort out the details involved in sending the money back to the new bank and reinstating the old loan. As far as you’re concerned, it’ll be like the last six or so weeks never happened, mortgage-wise.

Have More Burning Refinancing Questions?

Now that you know how refinancing works, you may have more specific questions that you need answered right now. No sweat! Just contact us here at Home.Loans and we’ll walk you through any part of the process you may be confused about. Even if your situation is quirky, we have the information you need.