What Does Refinance Mean for Your Mortgage?

Mortgage Definition

A mortgage is a type of loan used to buy a home, piece of land, or another piece of real estate. The borrower commits to repaying the lender gradually over a specific time period with set payments.

What Does Refinance Mean?

When you refinance your mortgage, your bank or lender pays off your old mortgage with the new one; this is the reason for the term refinancing. Most borrowers choose to refinance to lower their interest and shorten their payment term or to take advantage of turning some of the equity they have earned on their home into cash.

Types of Refinancing

Rate and Term Refinance

In a rate and term refinance, you typically get a new mortgage with a smaller interest rate and possibly a shorter payment term (e.g., changing a 30-year mortgage to a 15-year term). With the recent record-low refinance rates, refinancing your 30-year mortgage into a 15-year mortgage may result in similar monthly payments to your original loan. This is due to the lower amount of interest you would be paying on your new mortgage, even though 15-year mortgage payments are usually higher than 30-year loans.

According to The Truth about Mortgage, it’s essential to find your break-even point before deciding to refinance your current mortgage rate. This is essentially when the costs of refinancing are “recouped” through the lower monthly mortgage payment .

Cash-Out Refinance

In a cash-out refinance, you can refinance up to 80 percent of your home's current value for cash. This is why it is called a cash-out refinance. For example, if your home is valued at $100,000 and you owe $60,000 on your loan, your bank or lender can give you, as a qualified borrower, $20,000 in cash-out, making your new mortgage be $80,000.

In a cash-out refinance, you are not always saving money by refinancing but instead obtaining a form of a lower-interest loan for some needed cash. Reasons for taking a cash-out refinance might include funding a new pool for your backyard retreat or going on your dream vacation. However, be aware that taking a cash-out mortgage increases the amount of your lien. This could mean larger and/or longer-term payments. Remember that this is not free money, and you must pay it back to your lender.

How Much Does it Cost to Refinance a Mortgage?

Deciding to refinance your mortgage is a significant decision. Consider how much it costs to refinance a mortgage versus the potential savings. Consulting a professional can help clarify whether to refinance and explore other options available to you.