How to refinance your mortgage, a step-by-step guide (2024)

Experts say many homeowners want to refinance but talk themselves out of it because they don’t understand the process.

“I think some people are initially intimidated by the refinancing process because they remember all the steps they had to go through to finance their home, that big pile of paper they needed to sign, and are reticent to do that again,” said Jonathan Lee, senior director at Zillow Home Loans. “Really, refinancing is much more simple than the purchasing process.”

Here’s a look at how to navigate the process and some smart ways to get the best deal:

Essentially, when you refinance a mortgage, you pay off the mortgage you have, replacing it with a new one. The aim is to obtain a new loan at a lower interest rate and, possibly, with a shorter-term loan. Ideally, the results would be a lower monthly payment and lower interest for the life of the loan.

If you’re considering trading a 30-year mortgage for a 15-year loan, “the payment is significantly higher,” says Greg McBride, senior vice president and chief financial analyst for Bankrate.com. “Look at your broader financial goals. Would you prefer to pay more into your 401(k) plan” for retirement than toward a higher monthly mortgage payment?

However, Lee says if you are not saving on total interest over the life of the loan or on your monthly payment, it’s not worth refinancing.

Another reason to refinance can be to take cash out of your home. If you have sufficient equity in your property, you might want a cash-out refinance to use some of that cash to pay off credit card debt or to complete home improvement projects, such as a new roof or addition. For example, if your home is worth $600,000 and you owe $200,000, your home equity is $400,000 ($600,000-$200,000=$400,000). You might refinance with a $250,000 loan amount to obtain $50,000 in cash.

“We’re not seeing a lot of cash-out,” says Joel Kan, associate vice president for economic and industry financing at the Mortgage Bankers Association. “Auto loan interest rates are low, too. If you have a good rate [on your current mortgage] it may not be worth it to refinance just to get cash out.”

If you refinance at a shorter term, your monthly payment may be higher than it is now. However, “if you haven’t done a refi and want to take advantage of the lower mortgage interest rates, and want cash, you can refinance,” he says.

Data from the ICE Mortgage Technology Origination Insight Report shows the percentage of closed loans that were refinanced peaked at 68 percent of all closed loans in February 2021 while 32 percent were purchase loans. By June 2021, the most current data available, that percentage dropped to 48 percent for refinances compared with 51 percent for new purchase loans. Other peak periods for refinancing were early in the pandemic in April and May 2020 at 65 percent.

Mortgage credit availability increased slightly in July — by 0.3 percent — as lenders loosened their borrowing standards slightly, according to the Mortgage Credit Availability Index, a report from the Mortgage Bankers Association.

Be aware that lenders will reverify your employment and income before closing, and will require current pay stubs as part of that process. This has been part of the lending/refinancing picture for as long as 10 years, and continues to be part of it, in case one or both borrowers have lost a job or income.

When refinancing your mortgage, you’ll have to qualify in much the same way as when you applied for your mortgage. To be prepared, “know your credit status,” Kan says.

You can order a credit report from each of the three credit reporting agencies — Equifax, Experian and TransUnion — to check your score and whether information about you is accurate. You can obtain a free copy of your credit score from the Annual Credit Report website. Credit reporting agencies can send you your credit scores or you can access them online.

Typically, you can only get one free credit report from one of the agencies a year. But because of the economic crisis spurred by the pandemic, the three agencies agreed to provide a weekly free credit report to any American through April 2022.

“If you have score of 740 or higher you are positioned to get the best rates,” McBride says. If your scores are below 660 you will typically be offered higher mortgage interest rates. If your scores are 620 or lower you may be limited to government refinance programs, he says.

The Federal Housing Administration (FHA), part of the U.S. Department of Housing and Urban Development, offers FHA refinance options. Veterans with Department of Veterans Affairs (VA) loans might qualify for a VA Interest Rate Reduction Refinance Loan (IRRRL).

If you find derogatory information on the report, be sure to dispute it and get it cleaned up before you apply for a loan. To improve your credit score, pay off your credit cards in full, and continue to pay the balance in full each month. “Paying off or paying down debt” can improve your score, says Rod Griffin, senior director of consumer education and advocacy for Experian. In addition, wait to make any major purchases until your loan closes, says Zillow’s Lee.

Before you apply for a refinance, get your documents in order: tax returns, W-2s, 1099s, pay stubs that lenders may require. “Lenders look at two things: Your propensity to pay, the likelihood that you’ll pay, based on your credit report, and your ability to pay, by looking at your assets and income,” Griffin says.

There are various lenders to approach. For example, you can check with your current lender to see what it can offer you. In addition, you can try major banks such as Bank of America, Chase and Wells Fargo, as well as credit unions and other non-bank lenders such as Rocket Mortgage and LoanDepot. Non-bank lenders issue more than half of all loan originations.

Check the mortgage rates from at least three lenders. Get rates in “real time,” Lee says. “Get it in writing.”

In addition to comparing the rates, refinancing will include closing costs, and they are typically lower than when you purchase a home. “Look at the fees the lender is charging,” says McBride. “Comparison shop.”

To compare loan offers you have to calculate the Annual Percentage Rate (APR) for each loan you are considering.

The APR is the cost of borrowing money, including other charges, according to the Consumer Financial Protection Bureau. It reflects the mortgage rate as well as the fees you pay to obtain the loan.

A higher APR means you will pay more over the life of the loan. Use a loan comparison calculator, such as one from Bankrate, to calculate the APR, for example, for three different loan offers.

Estimates for closing costs vary depending on the state and municipality of the home. Lender estimates vary from 2 percent to 6 percent of the loan amount. Yet because the cost of closing a loan can include state and local taxes, ask lenders what is included in the term “closing costs.”

According to ClosingCorp, a San Diego company that provides residential real estate closing cost data for the mortgage and real estate services industries, the average closing costs for a single-family home refinance in 2020 were $3,398 including taxes, and $2,287 excluding taxes. ClosingCorp refinance calculations include lender’s title policy, appraisal, settlement, recording fees as well as various state and local taxes.

Average closing costs accounted for less than 1 percent (.87 percent) of the loan amount, excluding taxes, according to the ClosingCorp report. With taxes included, the average cost of refinancing was 1.29 percent of the loan amount.

Compare the total fees for the loan as well as a rate-to-rate comparison. “Compare apples to apples,” Lee says. And once you find the right lender, “get a real time lock for 30 to 45 days.”

Sometimes a lender will offer lender credits toward the cost of closing your loan. Lender credits may increase your mortgage interest rate by a fraction such as to 2.875 percent from 2.75 percent but don’t always increase your rate.

Lender credits depend on the loan-to-value ratio, which is the amount you are borrowing compared to the value of the property, the mortgage rate and the lender’s willingness to an incentive.

A point is 1 percent of the loan amount, and lenders may offer you a mortgage rate that is lower but has a fraction of a point or points associated with it. Make sure when you are comparing rates you are comparing the actual rates and any points associated with each rate various lenders offer.

Even if the lender isn’t offering a special promotion, ask for one anyway. Also, don’t be afraid to negotiate for a better deal, particularly if a competitor can beat them. Depending on how interested they are in your business, they may be willing to play ball.