Define Home Loan Refinance

Refinancing a home is a big decision, as it is changes the terms of your initial home-loan contract or places a new loan on a home already owned. Before signing a home loan refinance contract, you should have a thorough understanding of the precise terms of the agreement and the potential effects on long-term and short-term finances.

Types

Typically, the same types of loans that are available for the original home loan can be acquired for a refinance. These include fixed rate mortgages, where the interest rate will not change, and adjustable rate mortgages (ARMs). Interest rates for ARMs vary based on the waffling of an index outlined in your contract. According to the Federal Reserve Board, rates are based on the index plus a margin outlined in your contract. There are often maximum limits as to just how high a rate can climb.

Benefits

Refinancing a home can reap great benefits to the homeowner. Depending on the reason for the loan, benefits range from providing money for a much-needed vacation to avoiding the dreaded foreclosure notice. Often the benefit is simply lowering the monthly mortgage payment. Another common benefit is to lower the total monthly bills of the homeowner. This is done by consolidating other loans or credit cards into one loan, using the home as security. The primary benefit of an ARM loan is the generally low interest rate to start with.

Pitfalls

Obviously, failing to pay on a refinanced home loan can result in foreclosure just as not paying the original loan can. Consolidating debts such as car loans into a home loan is tempting because the car is now “paid for” and the title is yours. The problem here is that you are really paying for the car until your refinanced loan is paid off. It also may be necessary to get another car loan before the consolidation loan is paid off, resulting in raising your monthly bills. If the loan is an ARM, you always run the risk of rates going higher, and once again, your bill goes up.

Considerations

The homeowner should account for present and future goals before considering the home loan refinance option. If the goal is simply to decrease the monthly payment by getting a better interest rate, it is good to get an expert opinion on when is a good time to lock in that lower rate. Refinancing can often involve extending the terms of your loan, which means you will be paying off your home longer. If you are not planning on staying in the home long and are confident it can be sold, the risk of an ARM may be worth it for you.

Misconceptions

Refinancing a home is sometimes confused with getting another mortgage. A second mortgage is simply using any equity that may be in a home to get another loan in addition to the primary home loan. In order for the loan to be a true refinance, the terms of the primary loan must be thrown out and re-negotiated.