Many people all around the world struggle under the weight of debts. This may be attributed to the ease with which consumers access loans, the high interest rate and other unfavourable terms and conditions.
When people find themselves in multiple debts, it is important to look out for ways to reduce the debts. One of the ways to do this is to take out a refinance loan.
A refinance loan or refi as it is also called is a process through which an individual can revise and replace the terms and conditions of an existing loan with a new one. This process is most commonly associated with mortgages.
One of the major reasons why many consumers opt for refi is because of significant changes in the interest rate environment. This means that terms and conditions for consumer loans and even business loans have improved in favour of the borrower. In this article, we will help you understand refinancing and how it works.
How Refinancing Works
Refinancing like we mentioned is a means by which one can get a loan with better rates and terms to replace an existing one. More so, the aim is to settle financial obligations faster and maybe save some money in the process.
Although one can refinance other kinds of loans, the most common loan associated with refi is mortgage so we will start out our explanation of how refinancing works with an example of how to refinance a mortgage and then move on to other types.
The following are reasons why people seek to refinance their mortgage and how it works:-
- To reduce monthly repayments
- Pay lower interest rate
- Change from an adjustable rate mortgage to a fixed rate or vice versa.
- To get cash for some major projects.
No matter the reason for mortgage refi, the process is the same as getting a first mortgage. You have to take out time to research various options for the one that suits you best. It is recommended that you approach your original lender first as they may be willing to review the terms of your agreement.
After you have settled on a lender, you collect all the necessary documents and then proceed with application process. Click here for more details on mortgage refi.
Refinancing Auto Loans
Take the following steps to refinance your auto loan:-
- Review the present loan that you have. Check out the remaining repayment duration, the amount left to pay, the monthly repayment and the interest rate.
- Assess your credit history- It is necessary that you do this by yourself so that you will know your chances. When you apply for a loan, the lender will run a credit check on you and this will usually affect your credit score. But when you run the check yourself, it wouldn’t affect your score.
- Get your papers together – The documents you’ll need will include the following:-driver’s license, proof of insurance, vehicle registration, identification number of the vehicle, pay slip or proof of income, social security number, statement of amount left to pay the current lender.
- Shop for different options and then pick the right one for you.
- Apply and await approval
- Sign off on the agreement documents when the loan is approved.
Credit Card Refi
This process helps borrowers to cut down interest rates by transferring the debts from multiple cards to one card. The new card is usually one with lower interest rates and more favourable terms for the consumer. You can also consolidate the debts into one loan so that you’ll only be making a single payment every month.
The following are different options you can use to refinance your credit card debts:-
- Do a balance credit card transfer
- Joining a debt management program that’s run by non- profit organizations- These organizations help to organize debt consolidation for participants in the program
- Get a refi loan from a bank, online lender or credit union.
- Take a loan from you 401K plan
- Borrow against your home equity
There is no single option that is right for everyone; the best option for you will depend strictly on your circumstances. For example, those who have low credit scores do not qualify to do a balance credit card transfer; they also stand a lower chance of being approved for any loan that will be adequate for debt consolidation. The best option for people in this situation is joining debt management programs where they will be helped to get a refi.
Types of Refinancing
There are different options for refinancing that a borrower can choose from and each individual’s choice is determined by their needs. Let’s briefly discuss some of these options:-
- Rate And Term Refinancing -This the most popular type of refi and it involves replacing an original loan with a new agreement that allows the borrower to pay lower interest.
- Cash out Refinance – This happens in a situation where the value of the asset that was used as collateral increased. The borrower can use the value of the asset or equity (especially in mortgages) to get cash. This helps the borrower to get money they need immediately without losing ownership of their property or whatever asset they used as collateral.
- Cash In Refinance – This is like an opposite of the cash out option. Here, the borrower can decide to pay off some part of the loan so as to get a lower LTV (Loan to value) ratio or lower monthly payments.
- Debt Consolidation – This happens when a borrower takes a lump sum loan to pay off several small loans. Most often, this is because the overall interest across all the debts is higher than what they will get from the one lump sum. Another reason is that repayment of loans (av lån) across different lenders can lead to confusion and one may forget to pay off debts as at when due.
Advantages and Disadvantages of Refinancing
There are many benefits to be gained from refi loans but the truth is that there are also some downsides. So we will go ahead and discuss the advantages and disadvantages of taking this option to get out of debts.
- You can negotiate for and get a lower interest rate and lower monthly payments.
- You can move from adjustable interest rate to fixed rate. This will help you have a predictable repayment schedule and you may even save money.
- You can get cash to meet urgent needs.
- You can renegotiate for a shorter repayment duration which allows you to pay off the debt faster thereby saving some money from the total amount you will pay in interest.
- You may not save money even with the lower rates if the refi loan is reset to the original repayment duration. This is because the length of time you will make monthly payment will make you pay out more in interest at the end of the day.
- With a fixed rate interest, you would not benefit if interest rates drop in the lifetime of your loan unless you go for another refi.
- Options like cash out may reduce your equity in your property/home.
- There are closing costs on the home that may make the overall cost of the loan high.
Factors to Consider Before Refinancing
Financial matters are not issues one should just up and make a decision on. You need to research and check out every factor involved so that you can make the best decision for you. In this segment, we will discuss just 4 of the many things you should consider before deciding on refinancing. They are as follows:-
Many people do not know that this venture comes with some certain costs. There are fees that you have to pay and they include origination, application and appraisal fees. You may also to pay some points to have a lower interest rate.
These fees and charges put together can affect the overall cost of the loan. Check for the APR (Annual Percentage Rate) and not just the APY (Annual Percentage Yield). The APR will show you the real cost of the credit facility.
Do not forget to check whether there is a penalty for early repayment. If there is, ask for a waiver from your lender; this is possible especially if you want to refinance with them.
Existing Agreement or Financial Product on the Home Equity
This is a serious point to consider especially if you are thinking of cash out refinance. For example, if you have a HELOC and you want to use your home equity, you have to get permission from the original lender before you can refinance. Find out all the conditions attached to this issue before you go ahead with an application.
Duration of Occupancy in the Property
The length of time you plan to stay in the home is a factor to consider. This is because you will not really benefit much from a mortgage refi if you have plans of moving in the near future. You need to break even or recover your refi costs before thinking of selling so that you can reap the full benefit.
The Terms of the New Loan
Consider every little detail of the new loan; this will help you know whether you are making the right choice or not. Lower interest rates do not automatically translate to cheaper loans. Issues such as the repayment duration can also affect how much you would pay over the term of the credit facility.
This therefore means that a comparison of the original loan and the new one is vital to ensure that refinancing is the best option.
Refinancing is one way to get out of a debt situation. We have given you some tips on how to refinance different kinds of loans and factors to consider before going for a mortgage refi. Bear these tips in mind as they will help you make the right choice.
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