Here's What Happens When You Refinance a Mortgage With Poor Credit

The mortgage you start out with won't always be the mortgage you continue to hold until your home is paid off in full. It's common for homeowners to refinance their mortgages to take advantage of lower borrowing rates.

When you refinance a mortgage, you swap an existing home loan for a new one. And the savings there could be significant, depending on the difference between your old mortgage rate and your new one.

But when your credit score isn't so great, you might struggle to qualify for a mortgage refinance. And even if you do qualify, you might end up unhappy with the interest rate you're offered.

Poor credit could hurt you

A credit score of 579 and under is generally considered poor, says Experian. When your credit is poor, it sends the message that you're a risky borrower. And so to account for that risk, a mortgage lender will generally only agree to write you a loan -- whether it's a purchase mortgage or a refinance -- at a higher interest rate than what it gives borrowers with great credit.

So, let's say your mortgage's current interest rate is 6%. If rates fall into the 4% range, you may be tempted to refinance. But while someone with great credit might get to refinance at 4.05%, you might get stuck refinancing at 4.95%. That's a big difference. In fact, for a 30-year, $200,000 loan, it's a difference of $106 a month.

Try to boost your credit score before you refinance

It's best to go into a mortgage refinance with as high a credit score as possible. If your score needs work, there are steps you can take to help improve it.

First, make a point to pay all bills on time. Your payment history carries more weight than any other factor when calculating your credit score.

Next, aim to pay off a chunk of credit card debt. Doing so could lower your credit utilization ratio, which measures the amount of credit you're using at once and is another important factor in calculating your credit score.

Additionally, avoid closing out long-standing credit cards. You might think that doing so will help your credit score, but it will generally have the opposite effect, since the length of your credit history also plays a role in determining your score.

Finally, take a look at your credit report and see if you spot any errors. If there's a mistake on your credit report that makes you come off as a less trustworthy borrower, like a delinquent debt you never racked up, that's the sort of thing you'll want to correct. Doing so could improve your credit score.

You may be able to qualify for a mortgage refinance with poor credit. But that doesn't mean you'll end up getting a good deal on a new home loan. So if your credit score isn't in the best shape, it could pay to hold off on refinancing and wait until that number gets to a better place.