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PMI Explained: What It Is and Why You Should Have It

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

PMI Explained: What It Is and Why You Should Have It

There’s a lot to consider when purchasing a home. Location, size, and cost spring to mind as three of the most important factors. Perhaps you’ve budgeted and figured out how much you can afford for a down payment, but have you also considered your total monthly mortgage payments?

If you’re applying for a mortgage and can’t afford to put at least 20% down, you may have to pay for mortgage insurance.

What is Mortgage Insurance?

Mortgage insurance helps protect the lender’s investment, not the homeowner.

A homeowner’s insurance policy may reimburse you for a variety of expenses, including vandalism, thefts, and environmental damage to your home. Mortgage insurance is a bit different. Although you are responsible for mortgage insurance premiums, the policy protects the lender.

Casey Fleming, mortgage adviser and author of “The Loan Guide: How to Get the Best Possible Mortgage,” explains mortgage insurance “insures the lender against principal loss in the event you default, they foreclose, and the foreclosure sale doesn’t bring in enough money to cover what they’ve lent you.” In short, if you don’t pay your bills, the insurance company will help make the lender whole.

The 20% Down Payment Rule

Mortgage insurance isn’t required for all homebuyers. “Typically, homebuyers looking to get a conventional mortgage must pay PMI if they are making a down payment of less than 20%,” says Josh Brown of the Ark Law Group in Bellevue, Wash., which specializes in bankruptcy and foreclosures. Brown points out PMI serves a valuable function by allowing otherwise qualified homebuyers (with an acceptable debt-to-income ratio and credit score) to be approved for a conventional loan without the need for a large down payment.

How to Find Mortgage Insurance

Mortgage lenders will often find a PMI policy for you and package it with your mortgage. You will have a chance to review your PMI premiums on your Loan Estimate and Closing Disclosure forms before signing paperwork and agreeing to the mortgage.

Types of Mortgage Insurance

There are two main types of mortgage insurance: Private mortgage insurance (PMI) and mortgage insurance premium (MIP).

PMI helps protect lenders that issue conventional, Fannie Mae and Freddie Mac-backed, mortgages. You’ll often be required to make monthly PMI payments, a large upfront payment at closing, or a combination of the two. These payments are made to a private insurance company and are required unless you have at least 20% equity in your home. You may request to cancel your PMI once you have paid down the principal balance of your home to below 80% of the original value.

Mortgages issued through the Federal Housing Administration (FHA) loan program also require mortgage insurance in the form of a mortgage insurance premium (MIP). You will be required to pay an upfront fee at closing and an MIP every month as part of your monthly mortgage payment. Your MIPs depend on when your mortgage was finalized and your total down payment.

How Much Mortgage Insurance Will Cost You

How much mortgage insurance will cost you

PMI premiums can vary depending on the insurer, your loan terms, your credit score, and your down payment. The premiums often range from $30 to $70 per month for every $100,000 you have borrowed, according to Zillow.

Many homeowners’ monthly mortgage payments include their PMI premium. Alternatively, you might be able to make a one-time upfront PMI payment. Or, you could make a smaller upfront payment and monthly payments.

As we mentioned earlier, for an FHA loan, you will have to pay upfront mortgage insurance premium (UFMIP) which is generally 1.75% of your loan’s value. You may have the option of rolling this premium payment into your mortgage and pay it off over time. Your MIP depends on your down payment, the base loan amount, and the term of the mortgage and can range from .45% to 1.05% of the loan’s value. The MIPs must be paid monthly.

There are a few situations when you may be able to stop making mortgage insurance premium payments.

There are two eligibility requirements for conventional mortgages closed after July 29, 1999. As long as you’re current on your payments, PMI will be terminated:

  • On the date when your loan-to-value is scheduled to fall below 78% of the home’s original value.
  • When you’re halfway through your loan’s amortization schedule; 15 years into a 30-year mortgage, for example.

Your home’s original value is often the lower of the purchase price or appraised value. The current value of your home and your current loan-to-value aren’t figured into the above criteria.

You can also submit a written request asking your lender to cancel your PMI:

  • On the date your loan-to-value is scheduled to fall below 80% of the home’s original value.
  • If your current loan-to-value ratio is lower than 80%, perhaps due to rising home prices in your area or renovations you’ve done.
  • After refinancing your mortgage once you have at least 20% equity in the home.

Unlike PMI, if you have an FHA loan, your MIP may not ever be removed. The date your mortgage was finalized and the amount you put down determines your eligibility:

  • The MIP stays for the life of the loan for mortgages closed between July 1991 and December 2000.
  • The MIP will be canceled once your loan-to-value is 78%, if you applied for the mortgage between January 2001 and June 2013, and you’ve owned the home for five or more years.
  • If you applied after June 2013 and put at least 10% down, the MIP will be canceled after 11 years. If you put less than 10% down, the MIP stays for the life of the loan.

Refinancing an FHA loan to a conventional mortgage may provide you with additional options.

The Pros and Cons of Private Mortgage Insurance

There are a variety of pros and cons to consider when weighing the options of waiting to save a 20% down payment versus paying for private mortgage insurance.

Melanie Russell, a mortgage loan officer in Henderson, Nev., points out buying now can make sense if you expect home prices to increase or interest rates to climb.

What about waiting? In addition to avoiding mortgage insurance, putting more money down could lead to lower closing costs and a lower interest rate on your mortgage. Also, if you expect prices to drop, you’re saving on all the costs that could come with ownership, including taxes, mortgage, insurance, maintenance, and potential homeowners’ association fees.

In the end, it’s often a situational and personal choice. While Russell shared a few positives to buying early and paying for PMI, she also notes, “Only you can answer this question for yourself.”

When You Don’t Need Mortgage Insurance

There are also a few options that don’t require mortgage insurance, even if you can’t afford a 20% down payment.

For example, Veterans Affairs (VA) loans, offered to qualified veterans, don’t require mortgage insurance. You might not have to put any money down either, but these loans usually require an upfront payment at closing.

The Affordable Loan Solution program offered through a partnership between Bank of America, Freddie Mac, and the Self-Help Ventures Fund allows borrowers to put as little as 3% down without taking on PMI. Maximum income and loan amount limit requirements may apply.

You may also find some lenders willing to offer lender-paid mortgage insurance. You’ll pay a higher interest rate on the loan, but in exchange, the lender will make the insurance payments for you. “The math works differently every time,” says Fleming. “If a borrower thinks they won’t be in the property very long, [lender-paid mortgage insurance] might be a good choice, as sometimes the additional amount you pay is lower this way.”

However, if you’re in the home and paying off the mortgage for a long time, it could be more expensive than taking out a conventional loan with PMI. Because the premiums are built into your mortgage, you won’t be able to get rid of the extra payments after building equity in the home.

Another option could be to take out a second loan, called a piggyback mortgage. Although there are potential downsides to this route, you can use the money from the second loan to afford a 20% down payment and avoid PMI. Some people also borrow money from friends or family to afford a 20% down payment, but that could put your relationship in jeopardy if you run into financial trouble.

Finally, you might also discover lenders offering no-mortgage-insurance loans with a 10% to 15% down payment. As with the lender-paid mortgages, it’s important to review the fine print and the potential pros and cons of the arrangement.

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Louis DeNicola is a writer at MagnifyMoney. You can email Louis at louis@magnifymoney.com

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The Importance of Getting Preapproved for a Mortgage

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

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It’s a challenging time for homebuyers. Demand for housing is on the rise as the economy continues to soar and job opportunities increase. At the same time, housing supply is down in many parts of the country and mortgage rates are at a seven-year-high, averaging at 4.62% for a 30-year fixed loan as of June 18, 2018.

If you can get preapproved for a mortgage before you put in an offer on a home, it will give you an edge, especially if you are in a highly competitive market.

“A preapproval makes your offer stronger and more attractive to the person selling the house,” said Tendayi Kapfidze, chief economist at LendingTree, the parent company of MagnifyMoney.

In this post, we’ll explain what it means to get preapproved for a mortgage, and how you can do it the right way.

What is a mortgage preapproval?

A mortgage preapproval is essentially when a lender looks at some of your financial information, credit history and employment record, and determines you are eligible for a loan of a certain amount.

They will tell you how much you have been preapproved for and also what your mortgage rate will be. At this point, you can choose to lock in your mortgage rate, or wait to compare their offer with preapprovals from other lenders.

When you have a preapproval, a lender is telling you they are almost certainly going to qualify you for a loan. And when you are competing against other buyers for the same home, that document tells the home seller that you are a reliable candidate. It gives them an incentive to go with your offer, because you’ve been preapproved and it’s likely you’re going to be able to get a mortgage without any issues.

A preapproval can also be helpful to you and your real estate agent. The lender will preapprove you for a certain loan amount, so you will know exactly what you can afford. Your real estate agent then has a good idea of what properties to show you based on your affordability and preferences. In fact, some real estate agents will ask if you’ve been preapproved for a mortgage loan before they even agree to take you house hunting.

There is no guarantee that the borrower will get a final approval. There are plenty of things later in the mortgage process that could derail your application, such as a poor home inspection or a home price that is higher than the home’s appraised value.

How to get a preapproved for a home loan

Identify at least three potential lenders.You should plan on getting preapprovals from at least three different lenders to be sure you’re getting the best rate possible. Even a small difference in mortgage rate can add tens of thousands of dollars to your total loan costs, so that’s why we recommend comparing offers to secure the lowest rate possible. Start with your current bank and check offers from a credit union and online lenders as well.

Of course, if you are merely looking to obtain preapproval to bolster your initial offer on a home, it’s fine to get just one lender preapproval. That will be enough to satisfy any home seller or their agent. But once you are really ready to lock in a lender, that’s when it’s crucial to get offers from other lenders as well. Before there is a property attached to your preapproval, Kapfidze said, you can always switch to another lender.

Get your documents ready to go. Many lenders today will ask for documents electronically and you may even be able to upload documents directly through their website. If you get all your documents organized on your computer, you’ll be sure to have them all ready to go. Different lenders ask for different sets of paperwork, but most lenders require the following documents:

  • Your ID
  • Two months of bank statements
  • Verification of employment, usually in the form of your pay stubs from the last 30 days or W-2s from the past two years (1099s for those who are self-employed)
  • Documentation for other sources of income, if applicable
  • Social Security number and address

Expect an answer within 24 hours. Most lenders can process a preapproval within 24 hours if the borrower submits all the paperwork on time, said Doug Crouse, a mortgage loan originator with UMB Bank in Kansas City, Mo. However, that also depends on how quickly lenders move and how timely borrowers provide the needed information. In some cases, the preapproval process could take up to 10 days.

If you are preapproved for a mortgage, a lender will issue a letter stating the estimated loan amount and mortgage rate you qualify for based on your financial conditions. Once you have a preapproval letter in hand, you can start searching for homes within your price range.

How preapprovals impact your credit

Getting preapproved will result in a hard pull on your credit, which could make a minor dent in your score. This shouldn’t deter you from shopping around and comparing multiple offers, however. If you get multiple mortgage applications in a short period of time — 14 to 45 days usually — it will only count as one hard inquiry on your credit file and should not damage your score significantly at at all.

If you’re denied for preapproval, it could be for a number of reasons, such as a low credit score, high debt-to-income ratio or a small down payment, Kapfidze said. According to a recent study by LendingTree, the most common cause of mortgage denials was a tie between the borrower’s credit history and their debt-to-income ratio. Your debt-to-income ratio (DTI) is how lenders determine what percentage of your monthly income is going to be needed to cover your monthly debt obligations, including your potential mortgage payment.

You don’t need perfect credit to get a mortgage. To get the best possible rate, you’ll need a credit score of at least 760, but a credit score of 620 can generally qualify you for a conventional home loan. It will just come with a higher mortgage rate and cost you more money over the lifetime of the loan in interest charges. Do all that you can to improve your credit score before applying for a mortgage.

There are other mortgage options that accept a lower credit score. For instance, someone with a score of 500 may qualify for an FHA loan. We have a list of loan options for borrowers with poor credit here.

Really, the preapproval process is more straightforward than it sounds, and it’s a lot more simple than the actual loan application process — lenders are simply looking for signs indicating that you will be able to repay the loan at this stage.

Preapproval vs. pre-qualification

These terms are often used interchangeably in the mortgage business but they can mean very different things.

Pre-qualification is typically a prerequisite of a preapproval. Lenders may ask prospective borrowers to fill out a pre-qualification form, where a loan officer will gather a few details from you face to face or online, including your income, assets, debts and credit. Based on the preliminary information, they estimate the size of a loan they may qualify you for.

Because at this stage lenders will not verify any information about you, there is typically no hard credit pull required. It’s a good first step in that it helps you gauge how big a home you can afford.

Lenders may issue a pre-qualification letter indicating what your home purchase limit is. If you’re casually shopping for a mortgage or you’re just curious how much you might qualify for, a pre-qualification quote is a good first step for that reason. There’s no risk that you’ll ding your credit score for nothing.

However, pre-qualification is not as serious as a preapproval, and many home sellers will want to see a preapproval when they review your offer. If you’re truly serious about putting a bid on a home, get a mortgage preapproval first.

In a tight housing market, a buyer with proof of preapproval can get a competitive advantage than those who don’t have it — sellers are more likely to take the offer from a buyer who’s preapproved for a loan. This is why preapproval should be done before house hunting.

Benefits of shopping around for mortgage offers

Just like buying anything else, you would want to shop around for a mortgage, because the first offer may not be the best offer.

According to LendingTree’s recent Mortgage Rate Competition Index, borrowers could save 0.62% in interest rate by shopping around. On a 30-year mortgage, a borrower could potentially save $28,890 on a $300,000 loan. That’s almost 10% of the entire loan amount. (Note: MagnifyMoney is owned by LendingTree)

Crouse recommended borrowers check with two or three lenders to make sure they are getting the best deal in rate and costs. Once you’ve shopped around and received quotes from different lenders, then you can go forward with the one that you feel most comfortable with.

Alternatively, you can use this online tool, which will match you with multiple mortgage lenders, to compare quotes before applying for a preapproval.

Advertiser Disclosure: The card offers that appear on this site are from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all card companies or all card offers available in the marketplace.

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How Long Does It Take to Refinance a House?

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

Refinancing a home is very similar to getting a mortgage, but you might be wondering how long the process might take. If you have time-sensitive goals, knowing average refinance timeline for each stage could help you with planning. (Note: MagnifyMoney is owned by LendingTree)

How long does it take to refinance a house?

According to a recent report by Ellie Mae, the time to close on a home refinance has decreased significantly over the last few months.

As of February 2018, the average time to close on a home refinance loan was 37 days, down from 50 days in October 2016. Granted, closing times vary by loan type (i.e. FHA, conventional VA, etc.) but the average is coming down across all home refinance loans, Ellie Mae found.

Jason Lerner, area development manager and mortgage broker at George Mason Mortgage, LLC, said that refinancing could be even faster if there are no delays or complications.

There are many variables that come into play that could affect the timeline for your home refinance.

One variable in the timeline will be how responsive you, as the loan applicant, are with providing and verifying information as requested by the lender. The other variable is how responsive your lender is and whether or not there are issues or complications with your application.

The good news is that you can control your level of responsiveness and communication to help the process go as smoothly as possible while minimizing delays. However, you cannot control how the bank handles their internal processes.

That’s why it’s a good idea to review lenders who have a good track record of proving the best home refinance rates and customer service. Often, the best place to start is with your current lender, especially if you are a fan of their customer service, but always compare their offer with other lenders as well to be sure you’re getting the best deal.

The mortgage refinance process — from start to finish

It’s good to know about all the steps of the refinance process. This way, you can anticipate what’s needed and be prepared for the closing table that much quicker.

Here are the steps involved in most home refinance loans, along with how long you can expect them to take (barring delays, problems or issues). Some of these stages can overlap or occur simultaneously.

Figure out why you want to refinance

Preparing to refinance your home loan comes down to knowing your objective so you can narrow down a loan type, amount and potential repayment schedule. This is an important step.

Without being clear on exactly why you are refinancing your home, you could end up choosing a loan that doesn’t suit your needs, or even end up overextending yourself financially, which could put your home in jeopardy.

Refinancing your home just because you can is not a good idea. Create a list of financial goals, amount of money it will take to reach them along with a budget that includes your refinance scenario.

Common goals for refinancing a home could include:

  • Having a lower monthly payment
  • Consolidation of other debt
  • Get a lower interest rate
  • Pay off the loan quicker (with a shorter term, lower rate or both)

Home refinance costs (more below) should also be considered in this equation. Though the equity in your home is yours, accessing it still costs money. If possible, fare on the conservative side when it comes to determining the loan amount and type for your home refinance.

Choose the right refi loan

Now that you have an idea of what you’ll use your loan for and what you can afford, it’s time to determine the best type of home refinance loan.

There are many options when it comes to refinancing your home. You should become familiar with each so you can choose the best one for your needs.

Here are some loan types you could research:

  • 30-year fixed: A fixed interest rate loan amortized over 360 months
  • 15-year fixed: A fixed interest rate loan amortized over 180 months
  • Adjustable rate mortgage (varying types and terms): Interest rate resets periodically
  • Interest only: Borrowers pay interest on the loan, then principal
  • Payment option: Adjustable rate mortgage with multiple payment options
  • Balloon: Lower payments during loan term with a large payment at the end of the term

Next, you’ll want to explore different options offered under FHA, VA, USDA or conventional home refinance loans. There are ups and downs for each kind of mortgage, but ultimately, you need to choose the product that will help you meet your financial goals.

Compare offers from lenders

Now that you have a sense of the best type of home refinance loan, it’s time to research lenders who can offer you the best home refinance deal possible. Shopping for the best refinance rates can save you thousands of dollars, so don’t skip this step!

The terms offered will be based on a few things like how much your home is appraised for, the maximum loan-to-value a lender will offer, current market interest rates and your personal credit profile.

If you are especially concerned with how long it will take to refinance your home, you can make this a part of your research. Dan Green, former mortgage loan officer and owner of mortgage-literacy website Growella said, “Homeowners — especially homeowners working on a deadline — should ask about time-to-close as part of the lender comparison process.”

Understand the fees and additional costs

As mentioned before, financing your home is no small feat and it does come with a price tag. You should know upfront about the fees and costs related to a home refinance, as it should help you determine whether or not this is a move you actually want to make.

Think about how much you paid to close on your original mortgage loan to anticipate your closing costs this time around.

You can use a home refinance calculator so you can see the impact of refinancing your home when it comes to interest, monthly payments, tax deductions, total mortgage cost, etc.

Here are some home refinance costs you should know about:

  • Mortgage application fee
  • Home appraisal
  • Loan origination fee
  • Document preparation fee
  • Title search fee
  • Recording fee
  • Flood certification fee
  • Inspection fee
  • Attorney fee
  • Survey fee

Costs could vary by state and lender, so compare these fees on your Loan Estimate (see below) as you look at multiples lenders.

Submit your refi application to various lenders

Most lenders will allow you to apply for your home refinance online. To streamline your application process and get the best rates, you can apply to several lenders at once. This way, you can explore the best rates available while having lenders compete for your business.

If all of your refinance applications are made within a 30-day time period, the inquiries will not affect your score while you are shopping for rates.

Be prepared to provide demographic information about yourself and co-borrower, along with information about your property, original loan and more. Your lender will also eventually ask for additional proof to support the information you provide in the application. This would be a good time to start gathering this documentation up.

Get a loan estimate

Once the lender has processed your application and verified your information, they will provide what is called a Loan Estimate (LE.) By law, they must submit this loan estimate to you within three business days of receiving your completed loan application.

The Loan Estimate form is a standardized template that clearly outlines the home refinance terms the bank expects to offer you, should you decide to go forward. The bank has not yet approved (or denied) your refinance loan at this point, and they may ask you to sign the LE as a record of receipt on your end.

Again, you’ll want to use this Loan Estimate to compare multiple offers from various lenders.

Lock in your rate

Prevailing rates for mortgages can change from day to day and even from hour to hour, so it’s a good safety measure to lock in your rate. A rate lock means your lender will “lock” in your interest rate until closing.

Some lenders may lock your rate as part of issuing the Loan Estimate, but this is not always the case. You can check the top of your Loan Estimate document on the first page to find out if your interest rate is locked, along with when this rate will expire.

Submit required documents for loan processing

Among the supporting documentation you’ll be asked to provide may include:

  • Pay stubs
  • Tax returns, W-2s and/or 1099s
  • Credit report
  • Bank statements
  • Proof of any supplemental income

Note: It’s a good idea to check your credit report regularly in case there’s inaccurate information that needs to be addressed. You don’t want anything to prevent (or delay) the bank from processing your application or extending a refinance loan to you.

Once this information is provided, the processor will go on to order your credit report, home appraisal and payoff amount from current lender.

Appraisal

This is where an appraiser will come to your home and determine its value. They will be dispatched by the bank and come view the property, look up comparable properties nearby and furnish a report with their findings. The amount you’ll be able to refinance will be based on this appraisal report.

Underwriting

At this stage, the lender is putting all the pieces together — the appraised value of your home, your personal financial situation along with your predicted ability to repay the loan on time and as agreed. This risk analysis can take time and may require additional information.

You should be ready to provide additional information to your loan processor, if needed. Also, your employer could be contacted to verify your salary and employment status during the underwriting phase.

Commitment letter

This letter states that the bank agrees to lend you money, but there could be additional requirements, such as providing more information or clarifying information you’ve already provided. The bank can rescind this offer if there is an significant change in your personal financial situation as well.
However, once you meet the conditions set forth in the commitment letter, the underwriting department will issue a “clear to close.” Your loan officer will let you know via email or phone call that the bank will soon communicate the next steps for your closing date.

Closing disclosures

At least three days prior to closing, you’ll be issued a Closing Disclosure. It will outline the final terms of your refinance loan.

This three-day timeline is designed to give you enough time to compare rates and ask your lender questions about your loan. For example, if your closing disclosure varies greatly from your Loan Estimate, this is time to get clarification as to why.

You can also ask to review your closing documents before you get to the closing table. Your lender should be able to provide an electronic version so you are aware of what you would be signing at closing. The Consumer Financial Protection Bureau (CFPB) offers examples of closing forms along with instructions on how to interpret the information.

If you need help staying organized throughout this process, you can use a closing checklist to help you keep track of each stage of the closing process.

Closing

At this stage, you will sign all the required documentation to complete your home refinance. You should bring your Closing Disclosure with you to make sure your the terms you were quoted are on par with this document.

Sometimes your loan closing will be at an office with a closing agent (from a title company) that facilitates the entire process. According to Rafael Reyes, producing branch manager at loanDepot, “Most often, the lender will send either a representative from the title company or a lawyer to your home for the closing.”

He added, “The borrower doesn’t need a lawyer on their side for the closing, but they could hire legal representation at their discretion.”

At closing, you’ll sign your promissory note, mortgage, initial escrow disclosure and “right to cancel” form. You should bring proper identification because there may be a notary present who requires a valid ID to notarize your signature.

How you can speed things up

If you’re refinancing your home with the idea of saving money, you probably want to start saving sooner than later. You can start capturing those savings as soon as your refinance is complete and funds are disbursed.

To speed up the refinance process, you’ll want to stay on top of all the documentation requested by your lender. Even better — collect everything before you begin the loan application process so everything is ready, even at a moment’s notice.

You will also need to be responsive when it comes to requests for information. Though there are a number of variables that can influence the refinance timeline, your responsiveness and preparedness will help move things along much faster.

Advertiser Disclosure: The card offers that appear on this site are from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all card companies or all card offers available in the marketplace.

Aja McClanahan
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Aja McClanahan is a writer at MagnifyMoney. You can email Aja here

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How to Use Airbnb Income on Your Mortgage Refinance Application

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

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Airbnb hosts, here’s one more way renting out your spare bedroom can give you extra cash. U.S. hosts are now able to include Airbnb income when refinancing their home mortgage loan with participating lenders Better Mortgage, Citizens Bank and Quicken Loans thanks to an initiative between Airbnb and Fannie Mae. Read on to find out how it works, benefits of the partnership versus other lenders and what you need to do if you’re considering refinancing your mortgage.

How it works

Here’s who’s eligible for the new partnership: U.S. Airbnb hosts who list their primary residence and are interested in refinancing an existing conforming loan on that home. For anyone who has been denied refinancing in the past, this may provide the boost you’ve been needing. Of course, it always pays to compare interest rates and other costs — if you can afford to wait, other lenders may join in with even better offers.

John Moffatt, head of loan origination at Better Mortgage, says borrowers who have at least one year of Airbnb income claimed on their tax return and proof of income from Airbnb qualify. You may also be asked to submit utility bills.“Think of this partnership as a step toward more forward thinking in how people earn income,” he said. “It’s showing some good initiative in how Fannie Mae is helping borrowers by accepting alternative forms of income.”

Applying through Better Mortgage, Citizens Bank or Quicken Loans is similar to any refinance application. Each lender has its own underwriting and approval process, so you’ll need to refer to them for any specific questions. “At Better Mortgage, you can go through the entire application online. After you lock in your interest rate, we will then request your tax return, proof of income and any additional documents during the closing process,” Moffatt said. “I’ve heard anecdotally where customers have come to us with [a] high interest rate and just haven’t been able to refinance. It’s great we’re able to help people potentially save thousands of dollars in the long run.”

The rates through Better Mortgage, Citizens Bank and Quicken Loans are comparable with its competitors. Of course, the actual rate you get depends on a number of factors including your credit history, debt-to-income ratio and loan term.

What this partnership means for other lenders

While the three lenders mentioned above accept Airbnb rental income, that doesn’t necessarily rule out other mortgage companies. While Fannie Mae’s requirements for rental income don’t specifically address short-term rentals, Freddie Mac’s guidelines have been updated to help lenders qualify income from short-term rentals. Borrowers must show a two-year history of rental income on their Schedule E.  Reminder: Fannie Mae and Freddie Mac are government-sponsored enterprises that buy and sell residential mortgages. Better Mortgage, Citizens Bank and Quicken Loans have their own agreement with Fannie Mae so they accept a shorter history of rental income.

Cassidy Cain, a mortgage loan officer with US Mortgage, says the partnership with Airbnb could be beneficial to hosts. “The truth is that every lender out there is going to follow the guidelines presented to them by places like Fannie Mae and Freddie Mac,” she said. “However, some may be overly cautious about accepting [Airbnb rental income].”

In other words, other lenders could accept Airbnb income but may be cautious as to how much weight they give it when considering someone for a refinance. These companies may also require two years’ worth of rental income history as required by Freddie Mac, so that could put new hosts at a disadvantage.

Cain says Airbnb income may make a dent in your debt-to-income ratio. “If there’s enough income to significantly reduce your debt-to-income ratio, then you could have a shot at refinancing,” she said. “You’ll also need to make sure you meet all other requirements, such as your creditworthiness.”

Bottom line

This new partnership may work to your advantage if Airbnb income is the factor that puts you over the refinancing finish line, assuming you’re considered creditworthy and can fulfill other lender requirements.

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Mortgage

Which Is Better: Cash-Out Refinance vs. HELOC?

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

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When you need cash but don’t want to raid your emergency fund, it’s only natural to consider tapping into what could be your greatest source of wealth — your home equity.

It’s entirely up to you how you use it, but many consumers use home equity to remodel their homes, consolidate debt or cover expensive bills, such as college tuition. It’s your equity to use how you please, so the options are endless.

But because there’s more than one way to access your home equity, it’s wise to compare available options to find the right fit. Two of the most popular ways are a home equity line of credit (HELOC) and a cash-out refinance. Both of these loans can work if you want to access your home equity, but they do work rather differently.

Cash-out refinancing: How does it work?

Cash-out refinancing involves replacing your current home loan with a new one. The “cashing out” part of the equation requires you to take out a larger home loan than you currently have so you can receive the difference as a lump sum. Like HELOCs, this strategy works for people who have equity in their homes due to paying down their mortgage balances or appreciation of their property.

To qualify for a cash-out refinance, you need to meet similar requirements as you would if you were applying for a first mortgage. This typically means having a credit score of 620 or above, a debt-to-income ratio of 50% or less (i.e. the sum of all your debt payments, including housing, divided by your gross monthly income), and a loan-to-value ratio on your home of 80% or less after the cash out refinance is complete.

The equity part of the equation can be a roadblock since you need to have a lot of equity in your home to qualify for a cash-out refinance. Let’s say your home has a value of $300,000 and you want to take cash out. In that case, you could only borrow up to $240,000 through a cash-out refinance. If you owe that much or more on your home already, you wouldn’t qualify.

Like any other loan, you’ll need to prove your employment status via recent pay stubs and gather other documentation such as W-2 tax forms, two months of recent bank statements and two years of tax returns.

Cash-out refinance pros and cons

Pros:

  • You can use the money from a cash-out refinance for anything you want, including home upgrades, college tuition, a vacation or debt consolidation.
  • If rates have gone down or your credit has improved since you took out your original home loan, you could refinance your mortgage into a new loan with a lower interest rate.
  • You can choose from different types of loans for your refinance, with various terms and fixed or variable rates available.
  • Interest on your first mortgage may be tax-deductible.
  • Interest rates on first mortgages tend to be lower than other options, such as home equity loans or HELOCs.

Cons:

  • You may face substantial closing costs for a cash-out refinance, which typically work out to 2% to 6% of the loan amount.
  • If interest rates have gone up since you purchased your home, you could be trading your mortgage for a higher interest loan that will be more expensive.
  • Refinancing your home to take cash out may leave you in mortgage debt longer.
  • You won’t qualify for a cash-out refinance unless you have at least 80% equity in your home after the process is complete.
  • Refinancing your home to take cash out could leave you with a larger monthly mortgage payment.

Home equity line of credit (HELOC): How does it work?

While a cash-out refinance requires you to replace your current mortgage with a new one, a HELOC lets you keep your first mortgage exactly how it is. Acting as a second mortgage, a HELOC lets you borrow against your home equity via a line of credit. This strategy allows you to withdraw the money you want when you want it, then repay only the amounts you borrow.

To qualify for a HELOC, you need to have equity in your home. The Federal Trade Commission (FTC) notes that, depending on your creditworthiness and how much debt you have, you may be able to borrow up to 85% of the appraised value of your home after you subtract the balance of your first mortgage.

For example, let’s say your home is worth $300,000 and the balance on your mortgage is currently $200,000. A HELOC could make it possible for you to borrow up to $255,000, because you would still retain 85% equity after accounting for your first mortgage and your HELOC.

Generally speaking, HELOCs work a lot like a credit card. You typically have a “draw period” during which you can take out money to use for any purpose. Once that period ends, you may have the option to repay the loan amount over a specific amount of time or you might be required to repay the balance in full. You may also have the option to renew your draw period at that time. All these factors can vary, so make sure to ask your HELOC lender about specifics before you move forward.

Like credit cards, HELOCs also tend to come with variable interest rates. This can be a good thing when rates are low, but you have to be prepared for your rates to rise.

To qualify for a HELOC, you must be able to borrow the money you need and still maintain 15% equity in your home. Having a credit score of 680 or above can also help the process along, although some lenders offer home equity loans to borrowers with scores as low as 620.

Generally speaking, you also need to have a debt-to-income ratio of less than 43%, including your first mortgage and your HELOC payment. The Consumer Financial Protection Bureau (CFPB) reports that lenders implement this “43% rule” based on the idea that borrowers with higher levels of debt often have trouble keeping up with their housing payments.

HELOC pros and cons

Pros:

  • Applying for a HELOC allows you to maintain the terms of your original mortgage, which can be an advantage if your rate is low.
  • You can use money from a HELOC for anything you want, and you only have to repay amounts you borrow.
  • HELOCs tend to come with lower closing costs than traditional mortgages and home equity loans.
  • Interest may be tax-deductible if you use the funds to improve your property. Make sure to check with your accountant.

Cons:

  • Taking out a HELOC means you’ll need to make two housing payments every month — your first mortgage payment and your HELOC payment.
  • Interest on a HELOC is no longer tax-deductible, unless the funds are used for acquisition or updating your home.
  • Since you only repay what you borrow and the interest rate on HELOCs is typically variable, you may not be able to anticipate what your monthly payment will be. Your monthly payment could also be interest only at first, meaning your payment won’t go toward the principal or help pay down the balance of your loan.
  • The interest rate on HELOCs tends to be higher than first mortgages, and their variable rates can seem riskier. You may also be required to pay a balloon payment at the end of your loan, so make sure to read and understand the terms and conditions.

At a glance: Cash-out refinancing and HELOCs

At the end of the day, either borrowing option can get you what you need — access to the equity in your home. But, one option can easily be better than the other, depending on your situation.

Before you choose between a HELOC or a cash-out refinance, here are all the details you should consider:

 

Cash-out refinance

HELOC

Loan term

You get to select the loan term when you go through a cash-out refinance. Among other options, you can get a fixed-rate mortgage with a 15-year or 30-year term.

Most HELOCS come with a draw period of up to 10 years. After that, you will have a repayment period that varies by lender.

Borrowing limits

You can borrow up to 80% of your home’s value.

HELOCs allow you borrow up to 85% of your home’s value, including your first mortgage.

How long it takes to get the money

The average refinance takes between 20 and 45 days, and you’ll get a lump sum for the amount you borrow at closing.

The average HELOC can close in less than 30 days, at which point you’ll have access to your new line of credit.

Credit score

You need a credit score of 620 or higher to qualify for a cash out refinance.

You need a credit score of 620 or higher to qualify for a HELOC.

Equity requirements

You need to have at least 20% equity in your home after the cash-out refinance is complete.

HELOCs require you to maintain at least 15% equity after borrowing.

Interest rates

Mortgage rates can be fixed or adjustable, with rates ranging from 3.75% to 4.25%.

HELOC interest rates are variable, currently ranging from 4% to 5.87%.

Closing costs

Closing costs for a traditional mortgage range from 2% to 6% of the loan amount.

HELOCs tend to have little or no closing costs.

Risks

Since you’re using your home as collateral, you run the risk of losing your home if you default. If you extend your repayment timeline, you will also spend more time in debt.

HELOCs require a lower amount of equity (15%) in your home, which means you can borrow more. However, you could lose your home if you default, because you’re using the property as collateral.

Which choice is right for you?

Before you decide between a HELOC or a cash-out refinance, it helps to take a holistic look at your personal finances and your goals.

A cash-out refinance may work better if:

  • Your current home loan has a higher rate than you could qualify for now, so refinancing could help you save on interest
  • You prefer the stability of a fixed monthly payment or only want to make one mortgage payment every month
  • You have high-interest debts and want to consolidate them at the same rate as your new mortgage
  • What you save by refinancing — such as savings from a lower interest rate — outweighs the fees that come with refinancing

A HELOC may work better if:

  • You are happy with your first mortgage and don’t want to trade it for a new loan
  • Your first mortgage has a lower interest rate than you can qualify for with today’s rates
  • You aren’t sure how much money you need, so you prefer the flexibility of having a line of credit you can borrow against
  • You want to be able to borrow up to 85% of your home’s value versus the 80% you can borrow with a cash-out refinance

In addition to these options, you can also consider a home equity loan. While HELOCs come with variable rates and work as a line of credit, a home equity loan comes with a fixed rate and fixed monthly payment.

Whatever you decide, make sure to compare lenders, interest rates and terms to get the best deal possible when accessing your home equity.

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Mortgage

5 Reasons You Should Make Biweekly Mortgage Payments

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

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Maybe you’ve heard whispers among friends and family that making biweekly mortgage payments—once every two weeks instead of once a month—can help you pay off your loan sooner. In most cases that’s true, but did you know there are a ton of other benefits as well?

If you’re intrigued, stay tuned. We’ll show you exactly how to make biweekly payments work for you and the benefits.

The secret extra payment

If you’re like most people paying your mortgage once per month, you’ll get 12 full mortgage payments in a year.

But what if you make biweekly payments? In that case, either you or your lender will split your payments in half and submit a payment twice each month. For example, if you normally make a $1,000 monthly mortgage payment, you’ll instead make a $500 mortgage payment every two weeks.

This leads to the quirk in the calendar that lets you get ahead. There aren’t a uniform number of days in each month, and so by making biweekly mortgage payments, you’ll make 26 “half-payments,” or 13 “full” payments per year instead of the normal 12 payments. In other words, you make one extra full payment per year, and you won’t even feel it because you’ve budgeted for it.

This extra payment might not seem like much, but over the course of the loan, it has huge effects.

Let’s look at an example. Say you just bought a house and have a $200,000 mortgage with a 30-year loan term, and your interest rate is 4.125% APR. Here’s what will happen if you stick to the plain-Jane monthly mortgage plan, versus opting for biweekly mortgage payments:

 

Monthly Payment

Biweekly Payment

Payment amount

$775.44

$387.72

Number of payments per year

12

26

Total Paid per Year

$9,305.28

$10,080.72

Number of Years

30

25 years and 10 months

Total Interest Paid

$119,158.25

$100,077.57

Total cost

$325,158.25

$306,077.57

In this example, making biweekly payments allows you to pay off your mortgage a full four years and two months earlier, and saves you $19,080.68 to boot.

One caveat: Rarely, some lenders will charge you to make biweekly payments, since it’s essentially twice as much work for them to process. If your lender does this, it may be better to stick with your normal monthly payment plan. If you want to make biweekly payments, you can still do so manually for free by setting aside a portion of your paycheck on your own, paying your normal monthly payment, and then submitting an extra payment yourself once per year.

The case for making biweekly mortgage payments

1. Build equity faster

Home equity is the amount of your home that you actually own versus how much you owe your mortgage lender. For example, if your home is worth $200,000 and you still owe $150,000 on your mortgage, you have $50,000 worth of home equity.

One of the biggest benefits of making biweekly mortgage payments is that you build home equity faster. You may not realize it, but when you are in the early years as a mortgage borrower, the vast majority of your mortgage payment goes toward interest — not the principal balance on your loan. And until you are significantly chipping away at that principal loan balance, you aren’t actually gaining equity (unless, of course, the value of the home increases enough to eclipse your mortgage loan balance).

When you make biweekly payments and manage to squeeze in that extra payment each year, you’ll be making extra payments toward reducing the balance of your loan. And that extra payment will give you a small push toward building equity.

There are a lot of advantages to having as much home equity as possible. If you have enough home equity, you can take out a home equity loan to finance things like home repairs or remodels, for example.

Another example where having more home equity can help you is when you sell your house. Many homeowners are surprised how expensive it can be when they go to sell their home, all thanks to closing costs, which can amount to tens of thousands of dollars on top of your original loan.

That’s a big problem if you don’t have enough equity built up in your home to cover the cost. You might end up actually having to pay to sell your home, and losing your down payment money for your next home to boot. One of the best ways to guard against this is to build up as much home equity as you can as fast as you can, and making biweekly mortgage payments is a good way to do that.

2. Pay less interest over time

When you make a mortgage payment, the bank actually splits up up the money and divvies it out to various things. During the first few years after you take out your mortgage, most of the money will be going toward interest and very little will be going to reducing the balance of your loan (sadly). This process is called amortization, and anyone who’s ever had a loan literally had to pay their dues, especially during those first few years.

But, again, here’s where making biweekly mortgage payments can really help you. Since you’ll be making an extra payment each year, you’ll pay down the principal even faster. This means that each interest payment thereafter will be smaller than if you hadn’t made that extra payment.

Over the course of your loan, this can save you a huge amount of money. For example, if you have a $400,000 mortgage, making biweekly mortgage payments can save you over $38,000 in interest.

3. Pay off your mortgage faster

If you make biweekly payments, you’ll be chipping away at your principal balance faster than normal. We won’t lie — it’ll still seem like you’re paying off the mortgage at a glacial pace, but you’ll have a slightly sharper pick than your neighbor making monthly payments.

If you have a $300,000 mortgage and you’re making biweekly mortgage payments, you can actually shave off four years and two months from your loan. Instead of being in debt for 30 years, you’ll only be in debt for 25 years and 10 months! What would you do with those extra years of being debt-free?

4. Drop your PMI payment sooner

In 2017, the average homebuyer bought their home with a 10% down payment. That’s not bad, but for most conventional loans (not including FHA, VA and USDA loans), you’ll need a down payment of at least 20% to avoid paying for private mortgage insurance each month. This fee, which is tacked onto your monthly mortgage payment, protects your lender in case you default on your loan. In other words, it doesn’t even protect you—it protects your lender in case you mess up.

Once you reach 20% equity in your home, you can ask your conventional lender to cancel your PMI payments. If you make biweekly payments, you can actually get there a lot faster because you’ll be paying down the balance of your loan quicker than normal.

Let’s look at an example. If you have a $350,000 mortgage and only put 10% down like most people, you’d owe an extra $164.06 each month to pay for PMI. If you make biweekly payments, you’ll hit 20% equity 13 months sooner than if you were making monthly mortgage payments. That’ll save you an extra $2,132.78 in PMI charges.

5. It’s easier to budget

You know that the beginning of the month sucks when you’re trying to scrounge up a massive housing payment. Even if you’re a super budgeter and on top of your finances, saying goodbye to so much cash at once hurts.

If nothing else, biweekly mortgage payments take the stress out of those big payments. If you’re paid biweekly, it’s even easier — just send in the check each time you get paid, if that’s the due date that you agree on with your lender.

That way, the money won’t be sitting in your account until next month, just begging to be spent on something else and leaving you short of the bill when your monthly mortgage payment does come due. Making biweekly payments in this way can save you a ton of stress in addition to all the financial benefits.

Closing

By default, almost everyone is put on a monthly repayment plan. It’s how we’re conditioned to think about debt: after all, just about every type of loan is paid back on a monthly basis, including credit cards, student loans, auto loans and personal loans. In some cases, like for student loans, you may be able to switch to a biweekly payment plan, but it’s not very common.

That doesn’t mean you need to stick with the mold, though. We’ve shown five great benefits to switching over to a biweekly mortgage payment plan. You’ll:

  • Build equity faster
  • Pay less interest over time
  • Pay off your mortgage faster
  • Drop your PMI payment sooner
  • Budget for housing more easily

If you’re interested in switching to a biweekly mortgage payment plan, the next step is to contact your lender to ask about it. Your future self will thank you.

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Mortgage

How to Use Your Mortgage Cash-Out Refinance

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

203k loan

If you need money to pay for a big expense — such as college tuition, making home improvements or paying off credit card debt — and if you don’t have the savings to handle it, a cash-out refinance could help.

A cash-out refinance allows you to borrow from the equity you’ve built in your home, often at lower interest rate than other loans, and receive cash that can be used for just about any purpose. It can be a relatively cheap way to borrow money for important expenses.

But there are some risks involved with cash-out refinancing, and in certain situations, the cost will be higher than the alternatives.

This article explains what cash-out refinancing is, and dives into the pros and cons so that you can make the right decision for your needs.

What is cash-out refinancing?

A cash-out refinance involves taking out a new loan that is larger than your existing mortgage so that you can replace your old mortgage and walk away with extra cash that you can use for other financial goals.

For example, if you currently have a $150,000 mortgage on a home that’s worth $250,000, you could potentially refinance into a $180,000 loan that replaces your old mortgage and provides $30,000 that can be used for any purpose.

This is different than a traditional rate and term refinance in which your new loan balance is the same as your old loan balance.

With a traditional refinance, the primary goal is usually to reduce your interest rate and/or reduce your loan term in order to save money and potentially pay off your mortgage sooner.

With a cash-out refinance, the goal is generally both to improve the terms of your existing mortgage and tap into your home equity to help fund other financial goals.

Michael Dinich CRPS, a financial planner and the founder of Your Money Geek, says that a cash-out refinance can be an attractive way to pay for things like home improvements — in which case the interest would likely be tax deductible since the loan would be used to substantially improve the homes — or even pay off higher-interest debt like credit cards. The interest rate on cash-out refinances is usually lower than other forms of debt, such as personal loans or credit cards, because you are using collateral to back the loan (your home).

But there are some things to watch out for as well.

First, a cash-out refinance turns an asset — your home equity — into debt, which is always a decision that should be made carefully.

Second, the cash proceeds are typically first used to pay closing costs and other upfront expenses like property taxes and homeowners insurance, so you won’t always receive the full difference between your new loan amount and your old loan amount. You can apply for a no-cost refinance, but that just means that you’ll receive a higher interest rate or the closing costs will be added to the loan, so there’s really no escaping the cost.

Third, a larger loan could increase your monthly payment, and even if it doesn’t, you may end up paying more interest over the life of your loan if you are extending your loan term.

LendingTree, the parent company of MagnifyMoney, has a slew of tools to help you do the math. You can use this cash-out refinance calculator to estimate your monthly payment and this loan payment calculator to estimate your total interest cost.

So how do you decide whether a cash-out refinance is the right move for you? Let’s first look at how you can qualify and then look at situations in which it may or may not make sense.

How do you qualify for a cash-out refinance?

There are a few criteria you’ll have to meet in order to be eligible for a cash-out refinance.

Credit score

You must have a credit score of at least 620 in order to qualify for a cash-out refinance on your primary home. There are several ways to check your credit score for free, and you can use these six steps to improve your score if it isn’t yet where it needs to be.

Loan-to-value ratio

The maximum allowable loan-to-value ratio for a cash-out refinance is 80%, meaning that your total outstanding home loan balance after the refinance is complete can’t exceed 80% of the value of your home.

As an example, if your home is currently valued at $250,000, your new loan — combined with all other house related debt such as a home equity loan or HELOC — can’t exceed $200,000. If your outstanding debt is already greater than $200,000, you won’t be eligible for a cash-out refinance.

If you are looking to refinance a second home or an investment property, the maximum allowable loan-to-value ratio is lowered to 75%.

If you have a VA loan, you may be able to secure a cash-out refinance even if you don’t meet those loan-to-value requirements, but your maximum loan amount is capped depending on where you live and the type of property you are refinancing.

Debt-to-income ratio

Your debt-to-income ratio is the sum of all your monthly debt payments — including student loans, credit cards, and auto loans, in addition to your mortgage payments — divided by your gross monthly income. It must be 50% or less in order to qualify for a cash-out refinance.

Financial documentation

You will have to provide documentation that verifies your income and assets and proves that you are able to afford the loan. This documentation will vary by lender but often includes at least the following:

  • Your two most recent tax returns
  • Your two most recent W-2s
  • Bank statements for the past two months
  • Investment statements for the past quarter
  • Pay stubs from the most recent month

How those factors affect the cost of a cash-out refinance

While meeting the minimum requirements should allow you to qualify for a cash-out refinance, you can save money by improving these variables.

Specifically, lenders may collect a surcharge that varies based on your credit score and loan-to-value ratio.

If your credit score is 680 or above and your loan-to-value ratio is 60% or less, you can avoid the surcharge. But if your credit score dips below that threshold or your loan-to-value rises above it, your fee will range from 0.25%-3% the value of your loan.

For example, let’s say that your home is worth $250,000, your current mortgage balance is $150,000, and you’d like a cash-out refinance for $200,000 — an 80% loan-to-value ratio — so that you have $50,000 available for other goals.

If your credit score is between 700 and 739, you’ll face a 0.750% surcharge that equates to $1,500.

But if your credit score is just a little bit lower at 680-699, you’ll face a 1.375% surcharge that equates to $2,750. That’s an extra $1,250 for potentially just a few points difference in credit score.

All of which is to say that getting yourself in peak financial condition will help you qualify for a cash-out refinance and make it less costly.

Good ways to use your cash-out refinancing

There are many different ways you can use your cash-out refinance, some of which could help you improve your financial situation, save you money and even increase the value of your home.

Here are a few good ways to use your cash-out refinance.

Home improvements

Certain home improvements, such as replacing your entry door or upgrading your kitchen, can increase the value of your home in addition to making it a more enjoyable living space. And if you don’t have the savings to pay for it outright, using a cash-out refinance to fund those improvements can be a smart move.

“It may make sense to tap home equity for home improvements because the interest rate is lower than other forms of borrowing”, said Dinich.

Another benefit of using a cash-out refinance to improve your home is that the interest should be deductible. Under the Tax Cuts and Jobs Act, only interest on home loans used to buy, build or substantially improve your deductible, and home improvements should fit the definition.

It’s worth noting though that not all home improvements will increase the value of your home. Pools often don’t represent a good return on investment, and you also need to be careful about upgrading your home too far above the rest of your neighborhood.

This is one area where it pays to do your research. A good decision can pay off, but an uninformed decision may cost you money.

Paying off high-interest debt

Because the loan is secured by your home, and because it’s considered a first mortgage, a cash-out refinance typically has lower interest rates than other forms of debt.

This not only makes cash-out refinancing an attractive option compared with other loans, but it can make it a good way to pay off other loans and save some money in the long-term.

If you have credit card debt or private student loan debt with high interest rates, for example, you may be able to reduce your rate by executing a cash-out refinance, pay off those other loans and reduce your interest charges going forward.

Proceed carefully when it comes to federal student loans though. Those loans have a number of protections — such as income-driven repayment, forgiveness and deferment and forbearance — that would be lost by refinancing. Those protections are often worth more than a lower interest rate.

It’s also worth noting that the interest charged on the portion of the new loan used to pay off debt would not be deductible since that part of the loan wouldn’t be used to buy, build or substantially improve your home.

Paying for college

With college costs on the rise, parents are forced to get creative when the tuition bills come due.

A cash-out refinance may offer a lower interest rate than other types of loans, including parent PLUS federal student loans that are currently issued with a 7% interest rate.

The big downside is that you are using your house as collateral and that you will still be responsible for the loan even if your child drops out or otherwise doesn’t finish his or her education. You are also adding to your personal debt load at a time when you may need to be ramping up retirement savings.

In many cases it will make more sense for your child to take out federal student loans. They offer more protections, and he or she will have decades to pay it off.

Still, this can be an effective strategy in the right situations.

Purchasing an investment property

Using your cash-out refinance to purchase a rental property could serve as an effective long-term investment. The cash flow produced by the rental income could both offset the costs of the refinance and serve as a helpful source of income, and purchasing the property with the proceeds from a cash-out refinance may be cheaper than other forms of borrowing.

“It’s generally less expensive for homeowners to borrow against their primary residence than to borrow for an investment property,” said Dan Green, the founder of Growella and branch manager for Waterstone Mortgage in Cincinnati. “A cash-out refinance on the primary residence can reduce the total interest costs against both properties.”

Risks associated with a cash-out refinance

While a cash-out refinance can be a smart move in the right circumstances, there are some risks as well and in some situations there could be severe financial consequences.

Here are some of the riskier ways to use a cash-out refinance.

Debt consolidation

While using a cash-out refinance to pay off high interest can look like a no-brainer on the surface, there are some significant risks to be aware of.

“Accessing home equity to pay off high-interest credit card debt can be a good strategy, but only when it is in conjunction with the creation of a sustainable spending plan”, said Justin Harvey, a fee-only financial planner and the founder of Quantifi Planning, LLC in Philadelphia.

That is, taking out new debt to pay off old debt is generally only effective if you have a strong budget in place and a sustainable plan to both repay and stay out of debt. If replacing your credit card debt simply frees up space to reload those same credit cards, you could be doing more harm than good.

“Some of the consumers who were most harmed by the 2008 economic collapse were homeowners who treated their primary residence like an ATM during the housing price run-up,’ said Harvey. “When the price correction followed, many were stuck with a high-dollar mortgage on a low-value asset, and some homeowners were even underwater.”

Investing in the stock market

Taking out a loan to invest in the stock market is rarely a good idea. Stock market returns are not guaranteed, especially in the short term, and it’s possible to lose a lot of money in a short period of time.

If your investments do lose value, you may not have the money needed to make your mortgage payments, in which case you could be at risk of foreclosure.

Buying a car

“Taking out money to buy a car might not be a good way to use your equity,” said Jeremy Schachter, branch manager at Pinnacle Capital Mortgage in Phoenix. “You take out that equity and roll the interest over a 30-year period or take maybe a higher interest rate auto loan at a shorter term.”

Interest rates on auto loans are often low, especially if you are buying a new car and/or have excellent credit. And the loan term is typically one to eight years, which is shorter than most home loans and therefore often leads to lower interest costs over the life of the loan even if your interest rate is higher.

Starting a business

Only about half of all new businesses survive five years or longer, and only a third make it to 10 years or more. That’s less than the length of a typical mortgage, which means that you could run into trouble making your loan payments and put your house at risk in the process.

“Not all business loans are secured loans and all mortgage loans are,” said Green. “When your business succeeds, the distinction is less relevant. But when your business fails, having an unsecured loan is an advantage.”

If you do need a loan for your business, here are some alternatives to consider: 17 Options for Small Business Loans.

Lending money to friends and family

Lending money to friends and family is always risky because if the deal goes south, your personal relationship could be in jeopardy.

Financing that loan by taking on new debt yourself adds to the cost and risk of the transaction. And by tying that debt to your house through a cash-out refinance, you’re putting yourself in a position where if your friend or family member can’t pay you back, you could end up losing your home.

Put simply, this is rarely a good idea. If you’re determined to do it though, Green says that you should approach it like you would any other business decision.

“If you’re lending to friends or family members,” Green said, “you should use the same due diligence as with any investment and charge an appropriate interest rate for the risk.”

Should you use a cash-out refinance?

A cash-out refinance often has a lower interest rate than other types of loans because it’s secured by your home and because it’s considered a first mortgage. That can make it an attractive way to pay for big expenses, especially if you can reduce the interest rate on your existing mortgage in the process.

But that debt comes at a cost and it’s always worth evaluating all of your options, from saving the money you need yourself to exploring other types of loans.

In the end, a cash-out refinance is just one tool of many. When it’s used thoughtfully, it can provide a good return on investment. When it’s not, it can be just another costly debt.

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Mortgage

Best Ways to Add Value to Your Home

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

203k loan

If you’re tired of the way your home looks and feels but don’t necessarily want to move, you don’t have to settle. Whether you crave more square footage, an upgraded interior or better curb appeal, you’ll find an endless supply of ideas that can improve your home’s functionality and style.

But, that doesn’t mean that all remodeling projects are created equal — not by a long shot. While plenty of home upgrades can be “worth it” in a financial sense, there are ways you can improve your home that may cause its value to drop as well.

Before you remodel, it pays to research the best ways to add value to your home and which projects might offer the most “bang for your buck.” With the right strategy and a professional remodeling team by your side, it’s possible to create your dream home while building equity in the process.

Benefits of making home improvements

There are plenty of ways homeowners can benefit from a home remodel, but one of the biggest perks is an increase in their home’s value. With a home addition, a new kitchen, upgraded bathrooms or big project completed, it’s very likely your home will appraise at a higher value than it did before you remodeled. That means you’ll have a larger share of equity in the property, which is any homeowner’s ultimate goal.

And in when your home is worth more, there are several benefits you’ll get to enjoy.

  • The potential to remove private mortgage insurance (PMI) from your home loan: Private mortgage insurance is typically charged as an added fee when you buy a home with less than a 20% down payment. This fee can vary, but it’s usually equal to 0.15% to 1.95% of the loan amount. If your home’s value increases after you remodel, it may be possible to have your home appraised and the PMI charges removed from your monthly mortgage payment.
  • Increased net worth: An increase in your home’s value could boost your net worth — the measure of all your assets minus your liabilities.
  • Sell your home at a profit: The more your home is worth, the more likely you will be able to sell it for a profit if you need to move.
  • Easier qualification for home equity loans: By remodeling to improve your home’s value, your ability to qualify for a home equity loan or HELOC will improve. The amount you can borrow may also be higher.

In addition to the financial benefits of remodeling, there are other personal benefits you can acquire as well. Realtor Guillermo Salmon of Pearson Smith Realty says one of those benefits is the fact that you get to enjoy the fruits of your labor yourself if you stay in the home.

“It’s your home, and you want to be comfortable,” said Salmon, who sells real estate in the Washington, D.C., area. “I always tell my clients to make updates early so they can enjoy them instead of waiting to remodel until right before you sell.”

Salmon’s thoughts seem to line up with national statistics regarding home remodeling projects. According to the 2017 Remodeling Impact Report from the National Association of Realtors, 75% of homeowners who responded to the survey had a greater desire to be in their homes after their remodeling project was completed. And 65% of those polled also reported increased enjoyment in their homes.

Another important benefit of remodeling is the fact that it may improve your home’s utility, says Salmon. The NAR survey also revealed that 36% of homeowners reported better functionality and livability as the most important result from their project.

When you think about it, that makes a lot of sense. A kitchen with a better layout or a bathroom with a new garden tub could make living in your home a more positive experience, for example.

Last but not least, remodeling your home may help you avoid moving and all moving-related costs. Remember that moving to a new home may require hiring movers, some remodeling of your new home, realtor fees to sell your home, and of course closing costs on your new home loan.

“If the space is there and you are able to remodel, the price of a big project or full-home remodel could be well worth it,” said Salmon. “There are a lot of moving costs that people don’t think about, and it is often a lot more expensive than people realize.”

Home improvements that can add value to your home

While remodeling your home can make it more appealing to the eye and more functional, the right remodeling project can also boost the value of your home. The key to increasing your home’s value through remodeling is making sure you’re choosing projects that will actually pay off.

Kitchens and bedrooms and bathrooms, oh my

According to Salmon, kitchens, master bedrooms and master bathrooms are the areas buyers pay the most attention to — as well as the areas that could add the most value to your home if you remodel. Other bathrooms in the home are also important, he says, because “buyers don’t want to have to remodel rooms they need, and bathrooms are some of the most used rooms in a home.”

Salmon also says that paint may be more important than people think.

“Paint the interior of your home so it looks clean and fresh, but make sure to choose a neutral color,” he said. Salmon notes that many buyers lack imagination, so if they walk into your home and see lots of bright colors or a lack of cohesion in the color palette, they may be scared off.

“Some people hate bright wall colors or bold wallpaper,” he said.

Open concept conversion

Residential designer Paul DeFeis of Trade Mark Design & Build in the New Jersey area says another project that typically pays off is opening up walls to create an open living space.

If you have an older home with a boxy and broken-up interior, opening up the walls to create a larger living space is often one of the best “bang for your buck” remodeling projects. “Opening up a wall that connects an adjacent room to your kitchen is huge,” said DeFeis.

Curb appeal

Last but not least, both DeFeis and Salmon agree that curb appeal is important, and that improving the exterior look of your home can go a long way toward fetching a higher sales price or just upping your home’s value.

Salmon says that planting nice bushes, adding mulch or painting your exterior door can make your home pop. You should also make sure your grass is mowed and debris is removed. “Even basic yard cleanup can go a long way,” he said.

The National Association of Realtors also offers their own list of home upgrades that can pay off the most over time. According to their study, the home upgrades they believe will increase your home’s value the most in 2017 included:

  • Complete kitchen renovation
  • Kitchen upgrade
  • Bathroom renovation
  • Add new bathroom
  • New master suite
  • New wood flooring
  • HVAC replacement
  • Hardwood flooring refinish
  • Basement conversion to living area
  • Attic conversion to living area
  • Closet renovation
  • Insulation upgrade

In terms of exterior home remodel projects, they list new roofing, new vinyl windows, a new garage door and new vinyl siding as the top four upgrades that will appeal to buyers and increase the value of your home.

Home improvements that can negatively impact your property values

While there are plenty of improvements that can be a net positive for your finances, there are just as many that can make no impact in your home’s value — or worse, decrease your home’s value.

This list isn’t all-inclusive and the type of projects that can hurt your home’s value also vary depending on your neighborhood and where you live. If you want to avoid completing updates that won’t be worth it, think long and hard before you tackle any of the projects below:

  • Garage conversions
    • Cost: $5,000 – $30,000 and potentially more depending on job site conditions and square footage. While it might be tempting to convert your garage into a room to increase your square footage, DeFeis says this is often a bad idea. Not only can a converted garage look awful from the road, but it could be a zoning issue as well. Further, many buyers will want a garage over more square footage and may not consider your home without one.
  • Swimming pools
    • Cost: $30,000 – $100,000 depending on construction materials, landscaping and upgrades. Swimming pools may be standard or popular in warmer climates, but you could limit your potential pool of buyers by adding one no matter where you live. “It depends on the buyer,” he said. “Some buyers want a pool and some people absolutely refuse to have one.”
  • Nonconforming additions
    • Cost: $30,000 – $60,000 and potentially more for a home addition depending on size. Adding onto your home can increase your square footage and make your home more livable, but that doesn’t mean all additions look great from the outside of your home. “If you’re driving down the street and your house looks out of place, then it’s not going to help your home’s value,” said DeFeis.
  • Luxury upgrades
    • Cost: $1,000 – $2,500 per linear square foot for custom kitchen cabinets, $22 – $32 and up per square foot for marble flooring including installation. While luxury upgrades like custom cabinets or Italian marble flooring may have been all the rage a few decades ago, these products seem to be taking a back seat to more mainstream products, says DeFeis. “People want the look but they do not want the luxury product anymore.”
  • Overdone landscaping.
    • Cost: pricing varies. Too much landscaping can make buyers feel overwhelmed, but it depends on the neighborhood. Ideally, you’ll want your landscaping to look similar to your neighbors.
  • Overbuilding
    • Cost: pricing varies. Last but not least, don’t forget it’s possible to improve your home too much. Making your home a lot bigger than the rest of the homes in your neighborhood may not be a good investment, for example. “If the average price point in your neighborhood is $400,000 and your home is worth that amount but you add a $100,000 addition to your home, that doesn’t mean your home will be worth $500,000,” said Salmon.

Final thoughts

Whether you want to remodel to sell or to make your home into what you want it to be, it’s smart to research different remodeling projects to gauge your potential return on investment. While some projects can absolutely pay off, there are just as many home “upgrades” that can hurt your home’s value or make no impact at all.

 

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Mortgage

What to Know About Getting a Mortgage on a Second Home

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

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Although 36 percent of investors and 29 percent of vacation home buyers pay cash for their properties, many finance their homes, according to a survey by the National Association of Realtors Research Department. But even buyers who finance their second homes have a lot of cash on hand: 47 percent of investors and 45 percent of vacation home buyers finance less than 70 percent of the home’s purchase price.

That’s not to say you can’t get a second home with a smaller down payment, but it’s one of many important things to think about when looking to get a mortgage on a second home.

Is buying a second home right for you?

Before making a huge financial commitment like this, make sure you ask yourself these crucial questions:

Can I afford a second home?

Many families love the idea of buying a second home, but think about all the costs you incurred when buying your primary residence:

  • Down payment
  • Closing costs
  • Monthly mortgage payment
  • Property taxes
  • Property insurance
  • Private mortgage insurance (PMI)
  • Utilities
  • Landscaping and upkeep

You’ll incur many of these same costs with a second home, too. For example, Doug Crouse, a senior loan officer with nearly 20 years of experience in the mortgage industry, says PMI can be especially costly: “When it comes to second homes, PMI rates are about 50% higher than what they would be for a primary residence.”

However, a second mortgage isn’t inherently more expensive than a first mortgage. Dan Green, founder of Growella and a former top producing loan officer with 15 years of mortgage lending experience, says, “There is no closing cost difference on a second home [or] vacation home mortgage as compared to a primary residence.”

Keep in mind that if your second home is in a faraway location, you have to consider the long-distance costs of upkeep.

Will this be a vacation rental or an investment property?

There are typically two reasons people want to purchase a second home: buying it as a vacation home or buying it as an investment property. How you use it will have implications for your taxes.

According to the IRS, your home is a vacation home if you spend the greater of 14 days a year or 10% of the time you rent it to others.

Keep in mind that if you use your home solely for your family to vacation there, you can’t deduct items on your tax returns like utilities and real estate taxes like you would if it was an investment property. While you can deduct mortgage interest on a vacation home like you do for your first home, the new tax law for 2018 only allows you to deduct mortgage interest on your total properties up to $750,000. So if you already own a $750,000 home, you would not be able to deduct your mortgage interest on a second home.

If you use your second home to generate income from rent, you may be able to deduct items on your tax returns like utilities, real estate taxes, the fees you pay your property manager and more, according to the IRS. (Think of it like being a business owner who gets to deduct business expenses versus a vacation home owner.)

If you don’t want to choose between your second home being a vacation home or being an investment property, you don’t have to. It can be used as both, but you have to keep impeccable records that show when it’s being used and how, so you can properly itemize your deductions. For example, if you use it for half the year as a vacation home and rent it out the other half of the year, the IRS says you can only deduct your utilities, etc., on your taxes for the portion of the year you’re treating your home as a business and renting it out. It’s a good idea to consult a tax professional about how such an investment will affect you before you commit to buying a second home.

Is a second home a good investment?

Whether or not a second home is a good investment depends on the individual. Roger Wohlner, a fee-only financial planner, says, “One should be buying a second home for a specific reason such as a family gathering spot, an affinity to a location (a lake, etc.) or some other reason. Because of that, it can’t really compare to another investment.”

In other words, you can’t quantify relaxation, memories or family time as part of a return-on-investment calculation. That’s why it’s crucial you make sure you can afford the second home from the get-go.

If you’re considering a second home strictly as an investment property, whether or not it’s a good decision depends on many other decisions you make along the way, like how much you choose to charge in rent, which improvements you make to the property and how you plan to manage the property, to name a few. Before you decide to rent out an income property, make sure you’ve considered these seven major cost areas.

How to get a mortgage on a second home

What’s the difference between your primary mortgage and your second home mortgage?

There are a few differences between these two mortgages. Depending on your credit score and other qualifications, you may be able to get a conventional mortgage for a primary residence with as little as 3 percent down (but you will have to pay private mortgage insurance, or PMI.) You might also qualify for an FHA loan with 3.5 percent down. Generally, the higher your credit score, the better interest rate you will qualify for, but lenders may consider your application with a 620 or lower credit score. (You can read more here about the most important factors in getting approved for a mortgage.)

For a second home, you could be required to put 10 percent to 30 percent down, depending on your credit or debt to income ratio. Lenders like to see cash reserves, as well, to show that you can cover one to 12 months of payments. Additionally, lenders like to see a 640-700 credit score for second homes, and your interest rates might be a quarter of a point to a half a point higher than your primary mortgage, although Green says, “Mortgage rates on second homes may be slightly higher, or may not be higher at all.”

When it comes to credit qualifications for a second home, Crouse says, “Second home credit requirements are typically the same as primary residence for conventional lending.” Additionally, he says there’s no difference in the approval process. Green corroborates this. He says, “Minimum credit score thresholds aren’t usually different for vacation homes as compared to primary residences. However, lenders often ask for additional monies down.”

If you want to find a mortgage for a second home, Crouse says, “Typically lenders who offer primary home loans would also offer second home financing.” Green advises, “The mortgage-comparison process is the same. Do your research, talk to two or more lenders, and choose the lender that works best for you.”

You’ll also want to ask yourself these questions in order to avoid common mistakes:

Can I really afford this place? Wohlner says, “If you don’t have the cash for the down payment on a second home you shouldn’t be buying one.”

What loan terms make the most sense for this property? Just because you have a 30-year fixed-rate mortgage on your primary residence doesn’t mean that’s the right choice for a second home. Crouse says, “A common mistake is not looking at adjustable rate loans as an option,” because second homes are often “a luxury item and therefore something people liquidate when there is a change financial situation.”

Have I explored all my options? Green says, “When you’re shopping for a mortgage on a second home, make sure to actually shop.” He adds, “You’re looking for the best combination of price and service on your loan. It’s good to shop around.”

What are some ways to pay the down payment on a second home?

The best way to pay for a down payment on a second home is to pay for it with cash. Crouse says, in his experience, most people use cash as their down payment on second homes. The reason, he says, is, “Most buyers don’t want to tie up personal residence equity into their second home.”

If you don’t have the cash on hand and you’re committed to buying a second home, you can consider taking out a HELOC on your primary residence and using that money for the downpayment for your second home.

Taking out a HELOC comes with risks, though. You are leveraging your primary residence to purchase a second residence, which could cause you to lose your home if you fail to make your HELOC payments. In fact, Wohlner completely advises his financial planning clients against getting a HELOC to pay for a down payment on a second home. He says you should pay for it in cash.

Alternatives to mortgages for a second home

Getting a mortgage for a second home isn’t the only way to get the vacation property or investment property you want. Here are some other options:

Pay cash

Paying cash for your second home is a great way to ensure you don’t pay interest to a bank. It also means you’ll have no monthly mortgage payments on your second home, and that’s a great feeling. Of course, you’ll no longer have easy access to that money in case of an emergency. You might also prefer to get a mortgage at a low-interest rate and instead invest your cash in the stock market. Again, this is up to you, your risk tolerance and your cash reserves.

Get a joint mortgage with family

Sharing a second home and getting a mortgage with a family member could be a great way to split the costs and responsibilities of having a second home. Of course, involving multiple applicants in the mortgage process may make it a bit more logistically challenging.

You should also know that there are tax implications. When claiming the mortgage interest deduction, you may have to include an attachment in your tax return showing how much of the mortgage interest you paid. If you’re the person who receives the Form 1098 (the mortgage interest statement), you will deduct only the portion you paid and have to let the other borrowers know what their shares are.

Timeshare

Timeshares are an $8.6 billion industry, and the average price of a timeshare interval is $20,040, according to the American Resort Development Association. (A timeshare interval is the set number of days and nights per year an owner uses the property, usually a week, according to the ARDA.)

Now, you can go to large, well-known companies like Disney to find your own timeshare. With a timeshare, you typically get to visit a specific place every year for a set amount of time, like one week. So, you don’t have the flexibility of getting to visit your second home any time you want, but it can be more cost-efficient. Another con is that timeshares come with hefty dues that can increase each year.

Bottom line

Ultimately, buying a second home is an exciting prospect. If you vacation often to the same place, it can be a great way to become an official part of that community. However, buying a second home is a serious financial commitment that requires a large down payment and other maintenance costs. Luckily, if you decide you aren’t ready to buy a second home yet, you can still use vacation rental websites and continue to try new locations until you’re finally ready to take the plunge.

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Mortgage

Can I Refinance a Mortgage When My Home Is for Sale?

Editorial Note: The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

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If you’re having trouble paying your bills, or if you’d simply like to reduce your monthly expenses, refinancing your mortgage could be a good option. By reducing your interest rate, extending your loan term, or both, you could stand to significantly reduce your monthly payment.

But refinancing isn’t easy if you’re also in the process of selling your home. Many mortgage lenders may be hesitant to work with you, and there are some rules you’ll have to follow before you can even consider it.

This article explains why you might want to refinance your mortgage while your home is for sale, why lenders might be hesitant to allow it, and how you can maximize your odds of success.

Why You Might Consider Refinancing When Selling Your Home — and Why You Should Think Twice

There are a few situations in which refinancing a home you are trying to sell might seem like a good idea. But there are also some downsides to this approach, and in some situations, those downsides will outweigh any potential benefit.

Here are some of the reasons to consider it, as well as some reasons to think twice.

1. Relieve the burden of two mortgage payments

If you have already moved into a new home and you are now dealing with two mortgage payments, refinancing your older mortgage could be a way to reduce your monthly expenses and make this temporary situation a little more manageable.

One issue with this approach is that the upfront closing costs could outweigh the savings you receive on the monthly payment. This is especially likely if you end up selling your home quickly, as there may not be enough time for you to recoup those upfront expenses.

Dan Green, the founder of Growella and the branch manager for Waterstone Mortgage in Pewaukee, Wis., also warns that refinancing is not a cure-all if you’ve gotten yourself into a difficult financial situation. While it may offer temporary relief, the long-term issue of having to afford two mortgages will remain and you might end up spending a lot of money on something that still leaves you in a tough spot.

2. You can do a no-cost refinance

If you plan on selling your home within the next few months, the typical upfront closing costs associated with refinancing are a big obstacle.

But you may be offered a no-cost refinance in which you’re able to refinance your mortgage without closing costs. And that could be helpful in the right circumstances, as long as you understand the pros and cons.

The term “no-cost” is slightly deceptive because the lender isn’t actually giving you a free pass. They are simply rolling the closing costs into the loan, which increases the amount you’re borrowing and therefore increases the long-term cost of the loan.

The upside is that without the upfront costs, you can start saving money immediately as long as you’re able to lower your monthly payment. If you sell your home relatively quickly, you could end up spending less than if you had kept your original mortgage.

The downside is that since you’re taking out a larger mortgage, you’ll have to pay more the longer you hold it. If you have trouble selling the house or if your plans change and you decide to keep it, you could end up spending more than you would have either with your original mortgage or with a traditional refinance.

3. You’re not planning to sell the home anymore

If your house has been on the market for some time without any success, you might be having some doubts. That may be especially true if you’re in a buyer’s market, leaving you with little leverage for getting the price that you want.

In that case, you might simply decide that you no longer want to sell the house. You may even decide to turn the home into an investment property instead and rent it out to tenants.

According to Green, this is the most suitable reason to refinance while your home is for sale. If your plans have changed, a refinance might be the best way to save money over the long term.

Why lenders are wary of refinancing a home that’s for sale

Even if you decide that refinancing is the right move, you may have trouble finding a lender that’s willing to do it.

Lenders always take on risk when originating a mortgage loan, and some of these risks are even bigger when they’re considering short-term financing.

Default risk

Default risk is the risk that you might not be able to pay the loan back, in which case the lender stands to lose money.

On the one hand, if you are refinancing a mortgage on a home that you are trying to sell, it should theoretically be a short-term loan and that may decrease the odds of default.

If, as Green mentions, you are refinancing in an attempt to relieve some of the stress of a difficult financial situation, you might quickly find yourself in even more financial trouble if you aren’t able to sell your home quickly. And that type of situation could make it harder for you to pay back the loan, which increases the lender’s risk of losing money to default.

Early-repayment risk

According to Casey Fleming, mortgage adviser and author of “The Loan Guide”, lenders make most of their profit when they sell their loans to investors. So in a situation where you’re trying to take out a loan on a property that you’re trying to sell, the lender faces the risk that you’ll pay the loan off early and eliminate their ability to sell it for a profit.

“A lender doesn’t want to book a loan that’s going to be paid off after only a month or two,” said Fleming. “The lender stands to lose quite a bit of money if someone takes out a loan and then sells the property.”

Even if the lender does manage to sell the loan to an investor, part of the sale includes representation and warranties that could cause problems in the case of early repayment.

Fleming said, “The lender represents to the investor that the information in the file is true and correct and affirms that the loan will pay off as planned.”

So if you sell the home and repay the loan within just a few months, the lender may be forced to buy the loan back from the investor, resulting in more losses.

How to improve your odds of refinancing

If you’re still convinced that refinancing is the right move, how can you find a lender who is willing to go through with it while your home is still for sale?

The first step is to be honest. If your home is listed, it will show up on a multiple listings service (MLS) that the lender can easily cross-reference, so you shouldn’t try to hide it.

Beyond that, here are three steps you can take to improve your chances of getting approved for a mortgage refinance.

1. Take your home off the market

Most lenders will require that you remove your listing before they consider refinancing.

For cash-out refinance transactions, Fannie Mae, a government-sponsored enterprise that buys mortgages from lenders, requires that your property must be taken off the market before the loan is disbursed. And for limited cash-out refinance transactions, they require that the borrower confirm their intent to occupy the home.

In other words, for the most part you will not be allowed to refinance your mortgage if you are still planning to sell the home. You must have changed your mind, decided to hold onto it, and taken it off the market.

2. Write a letter of intent

Even if you do take your home off the market, lenders may still be wary of proceeding. In that case, a letter explaining your new intentions may help you secure the refinance you’re looking for.

According to Green, Fannie Mae requires borrowers to sign a letter indicating their intention to occupy the home as a primary residence. In other situations, you might write a letter explaining that you’ve decided to turn the home into a rental property rather than sell it.

Whatever the case, explaining your intention to hold onto the property, and providing evidence of that intention if possible, could help your case. For example, a copy of a lease agreement with a tenant could bolster your case that you are truly planning on using the property as a rental.

Again, it’s important to be honest. If you declare your intention to keep the home and then turn around and sell it right away, you could end up in a lot of trouble.

“If you misrepresent your intentions, you’ve committed mortgage fraud,” said Fleming. “The lender could sue you for damages and the federal government could prosecute you.”

3. Shop around

While most lenders will require that you take your home off the market and leave it off the market in order to refinance, some don’t have those restrictions.

“Banks or credit unions that retain some of their loans rather than sell them might be more willing,” said Fleming. “But only on higher-risk, higher-rate loans.”

If you shop around, you may be able to find a lender who’s willing to refinance even if you keep your home for sale. But there’s no guarantee, and you’ll likely end up with a more expensive loan that could hurt you in both the short and long term.

A good place to start shopping refi offers is through MagnifyMoney’s parent company, LendingTree’s mortgage marketplace.

The Bottom Line

If your home is already listed for sale, or if you plan on selling in the near future, refinancing is a difficult proposition. Many lenders won’t even offer a refinance unless you take your home off the market and those that will refinance often charge you higher interest rates.

In the end, it may be better to simply avoid refinancing if a sale is imminent.

But if you’ve had trouble selling your home and you’re having second thoughts, you can improve your chances of getting approved by taking your home off the market and refinancing in good faith.

Doing so could help you secure a lower monthly payment, a lower interest rate, or both, and free up a little extra cash flow for your other needs.

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Matt Becker
Matt Becker |

Matt Becker is a writer at MagnifyMoney. You can email Matt here

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