How to refinance a mortgage

As a homeowner, you can make decisions about whether you want to keep the mortgage loan you have or replace it with a different one. You might want to do this in order to get a lower interest rate or to take out some equity you've built up in your property.

There are many reasons why refinancing your loan might appeal to you. Before you decide to refinance, you should consider all your options and costs to ensure you’re making the right decision for your financial goals.

What is a mortgage refinance?

A mortgage refinance is when you use the money from a new home loan to pay off your existing one. You might pursue a refinance to save money on your monthly payment by refinancing to a different term or to a lower interest rate. You could also use a refinance to access equity in your home to make improvements to the property, to consolidate higher-interest debt or to help pay for larger expenses such as college or a wedding.

Four reasons to refinance your mortgage

Here are some of the most common reasons homeowners want to refinance their mortgage:

1. Get a lower monthly payment. Lower interest rates reduce your monthly payment as well as the total amount you'll pay over the life of your loan. While you may be able to get a lower payment simply by extending the term of your loan, many borrowers also look to reduce their payment by refinancing to a new interest rate that’s lower than their current one.
2. Pay off your mortgage more quickly. You may be in a better financial situation than you were when you first got your mortgage and want to change from a 30-year loan to a 15-year loan. Your monthly payment may be higher, but you’ll pay less interest over the life of your loan.
3. Change from an adjustable-rate mortgage. Unlike fixed-rate mortgages, adjustable-rate loans can change over time. Perhaps you think rates can’t get much lower. Or you don't want the uncertainty of changing rates, and you'd like to lock in a set rate for the life of your loan. A fixed-rate mortgage offers a more predictable monthly payment which could help with budgeting.
4. Access equity. If you need money for a home improvement project, or you’d like to consolidate higher-interest debt or help pay for a larger expense such as a wedding or college, taking equity out of your home is one way to get the funds. This is called a cash-out refinance. When you do this, you get a mortgage for more than you currently owe on your property and your lender gives you the difference. Taking out equity has its risks, especially if property values fall in the future, so make sure you consider these risks before getting a cash-out refinance.

Why you might not want to refinance your mortgage

There are some circumstances when you wouldn’t want to refinance as the costs would outweigh the benefits. These include:

• If you'll be moving soon. You won't be able to enjoy the savings from your lower interest rate because it could take a few years to recoup the money you spent on closing costs for the refinance loan.
• You're increasing the interest you pay. If you’ve had your existing 30-year mortgage for 15 years, and you refinance into another 30-year mortgage, you'll have a lower monthly payment, but you'll end up paying quite a bit more in interest over the life of your loan. It might be better to seek a shorter loan term or stick with your existing mortgage rather than dramatically extend your loan period.
• The closing costs may be high. Typical closing costs may be significant It might not make sense to take on this added cost or roll them into a new loan.

What is the process for refinancing a mortgage?

In a mortgage refinance, you take out a new mortgage to pay off your existing home loan. When you got your first loan to purchase your home, the money you borrowed went to the seller; this time, the money you get from the loan goes to your current lender. The process can be just as involved as it was when you got your initial mortgage. But in many cases, there are fewer requirements and the timeline is streamlined. Here are the steps:

1. Prepare your finances and documentation

Just like your existing mortgage, you'll have to provide proof of income and other financial information when you apply for a refinance. You may need documents like bank statements, pay stubs and tax returns to apply for most refinancing loans. Get these together before you apply to help make the process go smoothly.

You may also want to check your credit score, especially if you're close to moving into a better tier, such as from good to excellent. The difference in the interest rate may  reduce your payment even further. A lower credit score could mean a higher interest rate and monthly payment and you may have to pay a considerable amount of extra money over the life of your loan.

It’s also helpful to know how much equity you have in your home. For example, if you owe $300,000 on your loan and your house is worth $400,000, you have $100,000 in equity. Anything greater than 20% equity may make you appear less risky to potential lenders; plus, you may qualify for lower interest rates if you have more equity in your property.

2. Identify a lender

For many homeowners, the process begins by finding a lender. Your current mortgage lender may be able to offer you the best rates and simplest requirements because of your history as a customer, especially if you’ve made all your payments on time. You may also wish to apply for a refinance with other lenders. Some on-line services allow you to submit  information that’s shared with multiple lenders, who then compete for your business.

Shop for mortgages within a short time frame. This ensures multiple queries are counted as one by the credit reporting agencies, which minimizes the impact to your credit score. You might choose a lender based on who can give you the lowest interest rate, but you should also consider the amount of closing costs. Each potential lender will give you a Loan Estimate document. This document shows the terms of the loan and provides an estimate of your closing costs, your new monthly payment and other fees you’ll have to pay. The estimate may not be exact, but it should be too far off from what you'll actually pay.

3. Lock in your interest rate

Many borrowers refinance to get a lower interest rate, which could potentially save thousands of dollars over the loan period. That means you'll want to get the lowest rate possible.

Locking in an interest rate means you'll get a guaranteed rate for a set time. During this time period, you should be able to close your loan.

A knowledgeable lending professional can help you determine the best timing for locking in your interest rate.

4. Get ready for closing

For some refinancing loans, you won't have to do much except provide any requested documentation and wait for the loan papers to be ready. In other cases, your lender may require an appraisal of the property or additional information to close the loan.

You should also gather any cash you'll need for closing. Your Loan Estimate should tell you what amount you'll need to pay, and whether closing costs can be folded into the loan. Your lender will provide a Closing Disclosure with final costs 3 days before closing.

5. Complete the closing process

Closing day on your loan probably won't carry the same emotion that you had when you first purchased your home, but it can still be exciting.

Once the closing process is complete, it's important to keep copies of your loan documents in a safe place. You’ll also want to update any auto payments that you make for your mortgage to reflect the new lender and amount.

For the most up-to-date information on refinancing, and for help deciding if it’s right for you, speak to a Home Lending Advisor.