Refinancing may help lower monthly mortgage payments and provide homeowners with extra cash to build a financial safety net.
If you haven’t recently revisited the terms of your mortgage loan with a mortgage professional of your choice, homeowners may find refinancing options are available that could lower their monthly payment or tap into their home’s equity (the difference between a home’s market value and what is currently owed on a mortgage loan) to provide a cash reserve for an emergency fund.
Before looking into your options, it’s important for homeowners to understand that qualifying for a refinance may be more difficult than it was prior to the pandemic.
A borrower’s debt-to-income ratio (DTI), or how much of their income is being used to pay monthly recurring debt, also comes into consideration.
For those who may still be able to be approved for a refinance, there are several options and strategies they may wish to consider.
A cash-out refinance taps into a home’s equity (for a higher low amount)
When a home is refinanced, the first mortgage loan is paid off and replaced with a loan with typically more favorable terms. For example, it could have a lower interest rate, a shorter loan term, or the removal of private mortgage insurance from your payment. In many cases, the new terms can help to reduce the monthly mortgage payment, adding more money to the homeowner’s pockets.
In the case of a cash-out refinance, the new mortgage loan amount is for the total unpaid loan balance on the original mortgage loan plus a certain amount of the additional equity built up in the home. The original mortgage loan is paid off and the portion of equity is paid out as cash to the homeowner.
How home equity loans work – and potential important considerations
One additional way to turn a home’s equity into cash is through a possible home equity loan. These loans may allow a homeowner to borrow up to a significant percentage of their home’s equity and potentially make interest-only payments for a period of time, after which the loan converts to a more traditional mortgage loan in which principal and interest payments would need to be made. It may be a manageable way to pay for expensive remodeling projects, pay off higher interest debts, or cover an unforeseen future financial emergency.
Considering seeking a possible forbearance on your existing mortgage loan? It’s critical to understand the terms
If a homeowner decides that refinancing or a home equity loan isn’t an option for them, the homeowner may consider reaching out to the servicer on their existing mortgage loan for a possible forbearance or other payment relief options that may be available. A forbearance is a temporary agreement that may allow homeowners to skip or pay lower monthly payments for a set period of time until their financial circumstances change. Of course, not all forbearance agreements are the same, so it’s important to understand the terms, including how the payments that are skipped or reduced as part of the forbearance agreement are paid back at the end of the forbearance period.
Other servicers may require a lump sum payment or a fairly short period of time in order to either repay the amounts subject to the forbearance, agree to a possible loan modification, or find other payment relief options.
Eligible borrowers who suffer a financial emergency related to the pandemic and obtain a forbearance agreement under the federal CARES Act are entitled to certain protections. For example, delayed payments, which are part of the forbearance agreement, won’t negatively impact credit scores as long as those payments are made up at the end of the forbearance period. However, the law doesn’t cover how loans are reported after the forbearance period, so there may still be a possibility of an impact to a homeowner’s credit score.
A forbearance could also impact a homeowner’s ability to purchase or refinance a home later on. To be approved for a new mortgage loan in the future, many lenders may require a borrower to have gone a certain amount of time without a forbearance or late payment.
Try to stay focused on the long-term goals
An unexpected financial emergency can make it hard to focus on the bigger picture. But the situation will change eventually, so it’s important to think carefully before making any financial decisions that could have a lasting negative impact.
Working with a loan originator (also known as a mortgage broker) of your choice can help you understand the pros and cons of each option. Have Questions. Contact Us.