6 Ways to Save on a Mortgage Refinance
Getting a lower interest rate is the main way homeowners save when refinancing a mortgage. A lower interest rate on the loan leads to lower monthly mortgage payments, which can be one of the main reasons for a refi.
But there are other ways to lower costs during a mortgage refinance, including ways to improve your financial profile to a lender so that you’ll qualify for a lower interest rate. Here are six ways to save on a mortgage refinance:
Pay closing costs and points
Many lenders advertise “no closing cost” loans, which sound great until you find out that the costs are buried in the higher interest rate, says Casey Fleming, a mortgage advisor and author of “The Loan Guide: How to Get the Best Possible Mortgage.”
Instead, consumers should ask their mortgage broker or lender what happens if they pay for costs and discount points. "Discount points" specifically refers to the fee paid to buy a lower interest rate; the more generic term "points" may refer to any upfront fee calculated as a percentage of the loan amount.
By paying the lender’s costs to buy down your interest rate, it allows more of your payment to go to principal reduction each month, Fleming says. “After a few years you owe quite a bit less than you would with the higher interest rate,” he says.
Fleming gives an example of a homeowner refinancing a $396,950 loan for a 30-year fixed mortgage, but one they planned to leave in seven years.
One option is for a 4.25 percent interest rate and no closing costs that has a monthly mortgage of $1,952 and a total cost of financing over the seven year holding period of $110,637.
The second option is a 3.75 percent interest rate with the borrower paying closing costs and 1.51 “points” that add up to $10,124 in costs. The monthly payment drops to $1,838 and the total cost of financing drops to $107,217.
The third option has the lowest interest rate at 3.625 percent, but with 2.392 “points” to be paid to get that low rate, the cost rises to $13,625 and brings the total cost over seven years up slightly to $107,349. The monthly mortgage is $1,810.
The second option is the least expensive option over seven years when comparing out-of-pocket costs with upfront and interest costs, and is $3,400 less than the first option of no closings costs or points.
Even with similar information in front of them, more than half of Fleming’s clients choose a zero-cost loan and finance at a higher rate, he says. Why? Persuasive advertising, he says.
Improve your credit score
A low credit score can lead to a higher interest rate and a higher cost to buy down that rate. A high score of 740 is often needed for the best mortgage rates seen online, says Allen Seelenbinder, a regional sales executive for Bank of America.
Before applying for a mortgage refi, homeowners should check their credit score (such as at AnnualCreditreport.com for a free report) and review it for accuracy. If something is wrong, ask to have it fixed, and work on improving the score. Someone with a lot of credit cards and credit card debts can improve their score by 70 to 80 points by paying off the cards.
You can also help your credit score by not using credit cards or opening new accounts while refinancing your mortgage
It’s important to do all of this before applying for a refi, Seelenbinder says.
“Once you apply for a mortgage loan, that credit score is going to stick with you through your application,” he says.
Don’t take cash out
Refinancing to a lower loan rate can make borrowing against your home equity through a cash-out refinance enticing.
Doing so can mean paying a slight premium on the rate, Seelenbinder says.
But it could also cause you to lose more equity in your home if home values start dropping again. If you decide to move in a few years, that money you cashed out with a refi could eliminate all of your home equity.
Shopping around for the best price makes sense for many things, from clothes to groceries and cars to a mortgage — which is likely to be the most expensive purchase of your lifetime.
But when shopping at lenders, be sure you’re comparing apples to apples and getting more than just the loan amount and terms, Seelenbinder says.
“When people shop frequently they just shop for a rate,” he says. Also ask if the loan-to-value ratio, or LTV, makes a difference in the refinancing rate. An LTV of less than 60 percent usually doesn’t make a difference in rates, Seelenbinder says, but having it be 5 percentage points higher could increase the rate or points to be paid to lower the rate.
Have a history with your lender
Refinancing with your current lender could save you money. At the very least, it could be less paperwork because you’re already a customer.
Having substantial assets at your bank could help you save on closing costs. Bank of America offers its Preferred Rewards members a lower origination fee on home loans.
Prepare for an appraisal
Not every mortgage refinance requires an appraisal of the home — where a professional assesses the value of the property — but an appraisal could help if the home is likely worth more than what the lender states.
That could lower your LTV and help avoid paying private mortgage insurance, along with receiving a lower interest rate.
To prepare for an appraisal, it can pay to spruce up your home with fresh paint, cleaned carpets and manicured landscaping, says Jeremy David Schachter, a mortgage advisor at Pinnacle Capital Mortgage in Phoenix.
If major remodeling is being done to improve the home’s value, make sure it’s complete before the appraiser gets there and not in a construction phase, Schachter says. He’s had clients who didn’t have kitchens or bathrooms and a refinance was delayed or cancelled.
Low mortgage rates can be an enticement for homeowners to refinance their loan and get a lower rate and a lower monthly mortgage payment. Getting those low rates, however, can take a little more legwork than walking into a lender and taking the first rate they offer.
By using the above methods, borrowers can hopefully get lower interest rates on a refi than they could have otherwise.