Six Questions to Ask Before Refinancing

Breaking your existing home mortgage and refinancing to take advantage of low interest rates or special promotions from lenders may sound like a good idea in theory, but it may not always be possible or desirable.

For starters, lenders have tightened up the approval process, making it more difficult to get a loan.

Homeowners today need to be triathletes to qualify for a loan, with great income, great credit and great value in their home.

In addition, refinancing may not make sense financially, particularly for borrowers who plan to sell their homes in the foreseeable future.

Before taking the leap and opting to refinance, homeowners should ask themselves these six questions.

1. Do I Have Equity in My Home?

Homeowners need to have a minimum of  20% equity in their home to qualify for a new loan without having to pay creditor mortgage insurance. Adding the additional cost of mortgage insurance to a new loan could negate the benefit of a refinance.

Homeowners can still apply for a refinance even if they have low equity, because there are some lender programs they may be eligible. The best way to find out if you fit into a program is to go to ask you lender.

2. Do I Have Good Enough Credit?

Borrower credit scores play a big role in securing a good mortgage rate. In fact, you'll need a good credit score to qualify for any type of mortgage at all.

Mortgage rates operate on a sliding scale, with the lowest rates going to applicants with the highest credit scores.

Borrowers with scores below 620 may have trouble qualifying for a mortgage at any rate.

3. What Are My Financial Goals?

Many homeowners refinance to lower their monthly payments. A good mortgage calculator gives borrowers a sense of what their new payment would be after refinancing.

Others choose a shorter-term loan with higher monthly payments so they can reduce overall interest payments and own their homes faster.

Some people are restructuring their loan payments to pay their mortgages off quicker, which may work well for people with plenty of disposable income. But some folks may be too focused on paying off their mortgage and not integrating this decision with their overall financial plan.

Borrowers should also consider contributing to retirement savings and college savings, paying off high-interest debt, and saving 6 to 12 months of expenses before opting more expensive mortgage payments.


How Long Do I Plan to Stay in This Home?

Mortgage professionals generally tell borrowers to expect a home refinance to cost 1.5% to 3% of the loan amount. A simple calculation shows how long it will take to reach the break-even point when the savings outweigh the costs.

What Are the Terms of My Current Loan?

Borrowers with adjustable-rate mortgages or interest-only loans should consider the potential benefit of switching to a fixed-rate loan.

Breaking your mortgage early usually incurs a pepayment penalty and other expenses which could reduce the financial gain of a refinance.

Do I Have a Second Mortgage or Line of Credit?

Borrowers with a second mortgage or secured line of credit will face additional complexity when refinancing.

Borrowers can either pay off the second loan / line of credit or combine the two loans into a larger first mortgage. Otherwise, the lender holding that second loan /line of credit must agree to stay in second position behind the lender of the first mortgage, which the lender may or may not be willing to do.

Steven Porter, Mortgage Advisor with CIBC, steven.porter@cibc.com