To say there's been a surge in mortgage refinancing in the past year or so would be a massive understatement. Record-low interest rates and rising home prices have created an ideal environment for homeowners to refinance.
However, not all refinancing loans are the same. Here's a quick guide to the main mortgage refinance types and what you should know before you start filling out applications. Be sure to check out our in-depth guide to refinancing your mortgage for more information.
All mortgage refinance types accomplish essentially the same goal -- to obtain a new loan on your property. But there are several different types of refinancing, and the right one depends on your situation.
Two very common reasons to refinance are to lower the interest rate on a mortgage, or to change the repayment term. And while these can be separate events, they usually happen simultaneously.
As a personal example, I originally obtained a 30-year fixed-rate mortgage at 4% interest on my home. After paying the loan for five years, I decided to refinance at 3% interest with a new 30-year fixed-rate mortgage. At that point, I had 25 years left on the loan term. So, not only did my interest rate drop, but my loan's repayment term is now five years longer than it would have been if I'd kept the original loan.
The primary goal of this type of refinance is typically to either lower the monthly mortgage payment or lower the total interest cost of the loan. It's important to make sure the monthly payment savings will justify the closing costs of the loan over time.
As a general rule, refinancing could be worthwhile if both the following are true:
Check out today’s refinancing rates to find out if you could save money on your home loan.
An FHA loan is a type of mortgage insured by the Federal Housing Administration (FHA). FHA loans can also be used for both purchase mortgages and refinance mortgages. Borrowers can use an FHA loan to do a rate and/or term refinance. They could also do a cash-out refinance, which we'll get to in the next section. Existing FHA borrowers could qualify for an FHA streamline refinance which requires less documentation and underwriting than a full refinance.
FHA loans come with additional mortgage insurance fees. As such, if you can qualify, you can usually save money by refinancing an FHA loan with a conventional loan (which, in many cases, will not have mortgage insurance fees).
As the term implies, cash-out refinancing is a type of refinancing mortgage loan where the borrower receives cash back at closing. Borrowers take out a loan for more than they owe on their home and receive the difference in cash.
As a simplified example, let's say you owe $300,000 on your existing mortgage. You could obtain a refinancing mortgage for $400,000 and receive $100,000 in cash at closing (less any fees and closing costs).
A cash-out refinance can also be used to lower the interest rate and change the term of the loan.
HELOC stands for "home equity line of credit" and is a way to pull cash out of your home without getting rid of your existing mortgage. Technically, this isn't a refinance loan as you're not replacing your current mortgage. However, it's still worth mentioning as an alternative.
Generally, the mortgage rate you can get on a cash-out refinance will be higher than you could get on a simple rate-and-term refinance from a refinance lender. If you already have a mortgage with a low interest rate, it can be smart to use a separate funding vehicle to tap into your home's equity.
Another advantage of a HELOC is that you only borrow (and pay interest on) the money you need. If you get a $100,000 HELOC from your lender, but only draw $20,000 to finance a home improvement project, you'll only pay interest on the money you withdrew.
Note: HELOCs differ from home equity loans. For more on which is right for you, visit our comparison of a home equity loan vs. HELOC.
The main types of mortgage refinancing include rate-and-term refinance, FHA refinance, cash-out refinancing, and HELOC refinancing.
A cash-out refinance allows borrowers to tap into their home equity and receive cash at closing.
FHA mortgages are eligible for both rate-and-term refinances as well as cash-out refinances.
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