When considering refinancing a mortgage, you want to know everything you can to make an educated and informed decision. Trying to get a better rate to save yourself money on your monthly bills can make a big difference in your life. Here we will explain the difference between the two different types of refinancing plans: rate and term refinance and cash out refinance. We will discuss what these two different plans are, and the benefits of each. Armed with this information, you should be able to determine which plan is right for you and if you are in a good position to refinance.
Refinancing in general terms
When you are refinancing your mortgage, it means you are replacing your original mortgage with another one that may offer you a better deal. Meaning, getting a better interest rate, a better loan term, or both. Paying back a mortgage can be difficult, and refinancing, especially when you have good credit history, can be very beneficial. There could be many reasons that you want to refinance your mortgage, including getting a lower interest rate, agreeing to a shorter loan term, switching between adjustable interest rates and fixed interest rates, or get some cash from your home equity.
Any of these reasons can lead to you being interested in refinancing. You want to make sure you are well versed about what is available out there for you. And do your research so that you can understand how the industry works.
Something also to keep in mind is the mortgage closing costs, which can add up to thousands of dollars. Many people fail to consider this when refinancing a mortgage. I recommended that this number should be the ‘break even’ point. The break-even point is the time it will take for the mortgage refinance to pay for itself. The closing costs divided by the monthly savings. For example, it would take thirty months to break even if the closing costs were $3,000, divided by a $100 savings per month.
It is not the only fee that’s associated with in refinancing. Keep in mind the application fee, the title insurance and title search fee, the lender’s attorney’s fees, and the points and fee incurred in loan origination. Ask what these charges are before getting your loan.
As you can see, there are many issues involved when determining whether to refinance your mortgage.
Rate and Term Refinance
The rate and the duration of the loan are what most people think of when planning about refinancing a mortgage. This type of refinancing is paying off one loan with the proceeds from a new loan that may include greater benefits. So as you pay off that first loan, the refinancing loan will not be the one you are responsible for paying each month. With this type of loan, the benefits could include lower interest rates or a shortening of the loan term to build equity faster, perhaps both.
You also have the option with this category of refinancing to switch from an adjustable rate mortgage to a fixed rate, or the other way around. Determining which type of mortgage is best for you will take many considerations, including the interest rate, the projection of the industry as a whole, how much you have left to owe, and other considerations. You may want to consult with a mortgage specialist to determine your risks and benefits from making a switch.
The other primary factor to think about when choosing a rate and term refinance is the term. Many just look at a better interest rate and want to agree to it. It is not better if the term ends up being longer, so you end up paying more in the long run. The calculation of the break-even point will help you determine whether or not you are getting a solid deal.
Cash Out Refinance
If you are thinking about cash out refinance plan, many pros and cons accompany this choice. Cash out refinance mortgage occurs when you get a new loan to replace the current mortgage, generally at a lower interest rate. The cash out happens when you refinance for more than the amount of the loan balance or pay-off, and you take the difference in cash at closing.
People use this type of loan when they need to make some renovations in their home, or any other reason they are looking for an extra payout. If you can get a lower interest rate and better loan term, this is when many people will take advantage of the cash out option.
You may think that this is like a home equity loan, but there are some fundamental differences:
- A home equity loan is a separate loan on top of your mortgage; whereas cash out loan refinances the already existing loan.
- Generally speaking, the interest rates on cash out refinancing tend to be lower than those on a home equity loan, but higher compared to a rate and term refinance. Of course, this depends on your credit rating, the health of the market and other relevant factors.
- There are closing costs associated with refinancing your mortgage. See above discussing the break-even number. The total closing costs for cash out refinance cannot 3% of the loan amount.
If you can only get a higher interest rate for cash out refinance as compared to your current mortgage, then it does not make sense to choose this option. The cash should be an extra benefit. Also, consider the length of your existing loan, the term of cash out refinance, and the total monthly principal, interest, taxes and insurance payment. All of these can determine whether refinancing is best suited for you or not and if you will end up spending more money.
When considering this type of refinancing loan, think about how much money you would save each month, and on what you plan to spend the extra money. That can make the difference between choosing a rate and term refinance or a cash-out refinance, or even a home equity loan.
In conclusion, if you are considering refinancing your existing mortgage, speak with an expert to determine your best options and look at the going rate on the market today.