How to Determine If You Should Refinance Your FHA Loan
The good news about falling mortgage interest rates carries special significance if you hold an FHA-backed mortgage loan.
You may be able to refinance that loan through an FHA streamline refinance program and reduce monthly costs by cutting the interest rate — and by also eliminating your mortgage insurance fees.
And the FHA streamline refinance, while not necessarily a bargain as far as initial cost, is easy to qualify for and easy to process.
Qualifying to refinance your FHA loan
The first consideration, of course, is to verify that the drop in current interest rates is an improvement on your existing mortgage.
To do a streamline refinance you have to lock in a lower interest rate, or change your mortgage from a variable rate to a fixed rate.
But the FHA makes it easy for you with its “5 percent rule.”
The FHA requires that the refinance must save you at least 5 percent on your monthly mortgage costs, or you won’t qualify for one.
Enjoying the savings of a lower rate is not only reason to consider the streamline refinance program.
Other reasons are the liberal opportunities to qualify in other respects.
Even if your credit rating has slipped, or the value of your home has declined significantly since your original FHA financing, you can still streamline.
The FHA believes a lower monthly payment will make you a better credit risk.
On the other hand, if the value of your home has gone up, you can eliminate your mortgage insurance (PMI) fees by showing you’ve gained 20 percent-plus equity in the property.
An appraisal is not required with a streamline, but you may want to get one to verify your equity.
And there are just a handful of simple requirements necessary for approval.
As long as your existing FHA mortgage is in good standing, you should be good to go.
The only seasoning requirements are the following:
- You must have made at least six payments on the original FHA-insured mortgage before refinancing.
- Six full months must have passed since the first payment due date of the original mortgage.
- And, 210 days (almost seven months) must have passed from the issuance of the original mortgage.
- Finally, remember that no cash-out can be taken via the FHA streamline refinance.
Pros and cons of refinancing
The low interest rates we’re experiencing may pressure you to rush a refinance, but you should consider the details of your unique situation to determine if a refinance makes sense for you.
How much have rates dropped? Don’t get caught up in some of the dubious “rules” or “formulas” for how much of a percentage rate drop you should look for before you refinance.
Consider how much money you’ll stand to save.
A one percent rate reduction in your interest rate is a lot more meaningful if you have a $500,000 mortgage rather than one that’s $100,000.
How long do you plan to keep the mortgage?
Just like when you purchased your home, you will have to pay closing costs on your refinance.
If you’re planning on selling your house in a few years, by refinancing you may barely break even, or worse, if what you save on the remainder of your mortgage is no more than the closing costs charged for the refinance.
And, if you roll the closing costs into your mortgage instead of paying them up front, you’ll pay interest on them, so you’ll need to factor this expense into your calculations, too.
Can you refinance into a shorter term?
If you have 20 years left on your mortgage and you refinance into a new 30-year mortgage, you may not save money over the long run, even with a lower rate.
However, if you can afford to refinance that 20-year mortgage into a 15-year mortgage, the combination of a lower interest rate and a shorter term will substantially reduce the total amount of interest you’ll pay before you own the house, free and clear.
The dollar-and-cents benefits of refinancing
There are definite pluses to getting a refinance done.
First, you get a better loan. Refinancing gives you an opportunity to fix what don’t like about your existing mortgage or simply make a good mortgage even better.
Either way, you’ll increase your short- and long-term financial security and increase the odds that hard times won’t put you at risk of losing your home.
It also increases your long-term net worth.
With the savings from refinancing your mortgage, you’ll be spending less on interest.
That’s money you can put away for retirement or use toward another long-term financial goal. At the same time, your short-term cash flow improves.
If your refinance lowers your monthly payment, you’ll have more money to work with on a month-to-month basis.
This can reduce the day-to-day financial pressure on your household and create opportunities to invest elsewhere.
Cautions about refinancing
Interest rates vary every day, and they also vary depending on your specific location.
Rates in California may not be the same as rates in North Carolina.
MyBankTracker has a variety of tools to check mortgage interest rates, including the rate table.
You can also contact local HUD-approved lenders, who may also be willing to tell you whether they anticipate rates going up or down in the near future.
The FHA streamline refinance is quick and easy as far as paperwork goes, but streamlining is not so easy on the pocketbook.
You will probably pay several thousand dollars in closing costs, including a broker fee, transaction fees, recording fees, and other administrative fees.
This is the reason why you only refinance your FHA loan if it will provide significant savings over the life of your loan.
Like any other major financial transaction, it’s always wise to take the time to shop around.
That means looking beyond your current lender and loan type to see if there may be something better for you.
A new mortgage rate with a new lender may be waiting for you that will justify a more lengthy qualification process.
At any rate, the potential savings you could enjoy each month over your lifetime is definitely worth your time and careful consideration.
Jeff is a licensed real estate agent in California and he specializes in home buying, mortgages, and debt, among other money topics. His work has appeared in Business Insider and Trulia.