With mortgage rates holding below 5%, there has rarely been a better time to refinance your home. But with a one-two punch of tighter credit and falling prices roiling homeowners, the process has never been more difficult.
In the Sacramento, Calif., area, Michael McGee of Winchester McGee Financial estimates that one in four of his customers can't get a loan approved. In Plano, Texas, Rodney Anderson, a mortgage lender, says the rate sheet of mortgage programs he can offer customers has shrunk to two pages from 42 during the housing boom.
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That doesn't mean you shouldn't investigate your options. Lowering your mortgage payment — or at least locking in a long-term low rate — can free up cash for other needs, such as repaying other debt or replenishing your retirement accounts, while reducing your financial stress.
In addition, if you're older than 40, shortening your mortgage term now could help leave you mortgage-free in retirement, reducing the income you'll need to generate from your battered 401(k).
But before you jump in, you should know that most single-family home loans today need to fall within Fannie Mae and Freddie Mac limits — up to $417,000 in most places, and up to $729,750 in certain high-cost cities such as San Francisco and New York. "Jumbo" mortgages, or those larger than those limits, are still very hard to find.
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Then you'll need two crucial and tough-to-acquire bits of information: your credit score and your home's current value. Those will determine whether you can refinance at all and how close you can get to the lowest rates available. Even then, you may find the process unusually long and unpleasant; some banks are taking up to 90 days to complete a refinancing.
If you got your current mortgage in the past few years, when less documentation was needed, you may be surprised by the financial colonoscopy that awaits you. You will need pay stubs, bank statements, brokerage statements and maybe tax returns to convince the lender that you can and will repay the loan. If you're self-employed, you may be asked for a profit-and-loss statement for this year; if you rely on bonus income, expect the lender to assume this year's bonus will be a lot less than last year's.
Here's what you need to know before you start the application process:
What's your equity? Having some equity in your house is key to getting a new loan. If your current mortgage is less than 80% of the value of your home or less than 75% of your condominium or co-op, you should have refinancing options.
If your mortgage is between 80% and 105% of your home value, you're current on your payments and your loan was bought by Fannie Mae or Freddie Mac, you may be able to refinance under a two-month-old government program called "Making Home Affordable." Some kinks are still being worked out, and Fannie and Freddie have different requirements, so go to the program's Web site or contact your mortgage servicer to see if you qualify.
Sometimes under this program, Fannie and Freddie will waive appraisals and other underwriting steps. And if you're refinancing a Veterans Administration or Federal Housing Administration loan, a new appraisal isn't needed.
Securing an appraisal. The trickier question: With home values sinking in some parts of the country, what's your home worth? Appraisers may use foreclosure sales or other distressed sales in your area to assess your home's value, not just conventional sales. And since the appraisal is for the benefit of the lender, not the consumer, you have little, if any, say in the process.
On May 1, a new Home Valuation Code of Conduct took effect, which is intended to keep mortgage brokers and others from influencing appraisal values. As a result, only lenders, not mortgage salesmen, may hire and pay appraisers, often using middlemen known as appraisal management companies.
The process is too new to know what the impact will be, but some mortgage lenders and brokers fret that national appraisal management companies may not know much about their areas. "We're getting calls from Indiana about a co-op on 17th Street," says Melissa Cohn, president of Manhattan Mortgage Co. in New York, one of the nation's largest mortgage originators.
If you're worried about what your home will be valued at, see if a friendly real-estate agent will provide you with recent similar sales in your neighborhood. Otherwise, you may have to fork over an appraisal fee — $350 to $500, depending on where you live — to find out if you have enough equity, even if you don't qualify for the loan.
Your credit score. Whether you get today's lowest rates will depend next on your credit score, a measure of how big a credit risk you may be. Borrowers who want the best rates generally need a FICO score — based on a formula developed by Fair Isaac Corp. — of 740 or above out of a possible 850. Those with FICO scores between 620 and 740 will pay either higher interest rates or more upfront "points" or fees, and those with scores below 620 may not be able to land a loan at all.
That seems simple enough until you realize that the nation's three main credit bureaus — TransUnion, Experian and Equifax — all calculate their FICO scores differently. So lenders typically pull all three scores and take the middle one, or a couple's lowest middle score.
Getting your number. Finding your actual scores is a bit like trying to read tarot cards. The Web site Credit Karma offers a free credit score, but it's the TransUnion TransRisk score, not your FICO score. Experian sells consumers its Experian Plus scores but doesn't make its FICO score available directly to the public.
You can buy TransUnion and Equifax FICO scores from MyFico.com, but they may not be the same scores your lender sees. That's because you actually have multiple FICO scores, with different equations for auto loans, credit cards and mortgages.
All those scores, however, should be fairly consistent, giving you a good idea of whether your credit is good or great. If your scores are lower than you'd expect or if they vary widely, check your credit reports for errors. You can retrieve all three credit reports free of charge once a year at AnnualCreditReport.com.
If you don't meet the cutoffs, both Credit Karma and MyFico offer suggestions on how to improve your scores.
Refinancing may still make sense even if a weak score or other issues mean you have to pay extra points or a somewhat higher rate. Total up the points and other costs of your new loan, including closing costs, and divide it by your monthly mortgage savings. If you can recover your costs in two or three years — and you plan to stay in your home longer than that — you can save a lot of money over time.
Before you second that. If you have a second mortgage on the property or a home-equity credit line, you'll have one more hurdle. Some second lenders are refusing to stay in second place when you try to refinance your first mortgage. In that case, your options are to roll the two loans together, if you have enough equity; pay off your second loan; or find a new second lender who will allow you to refinance the first loan.
The condo hurdle. If you live in a condo or co-op, your building will also have to meet more-rigorous guidelines. Ms. Cohn of Manhattan Mortgage says lenders are tightening up on how much insurance a building must have, its occupancy rate and how much space in the building can be used for commercial purposes. She says she now makes sure buildings will be approved before moving forward with an application.
Shortening your loan. If your current loan is less than three or four years old, it may make sense to start over with a new 30-year mortgage. But otherwise, try to avoid going backward. If you last refinanced in the 2003 boom, for example, go for a 15-year or 20-year mortgage to cut your future interest payments and pay off your home quicker.
Whether to refinance an adjustable-rate loan that is currently fairly cheap depends almost entirely on how long you plan to own the home. If you think you will still be there in three to five years, when interest rates may be substantially higher, it may make a lot of sense to lock in at low rates now. Many brokers and lenders expect rates to stay low at least until the fall, but they also expect rates to jump quickly once they move up.
Finally, you should be able to lock in a current rate without an additional charge. But since the loan process may last longer than your 60-day rate guarantee, you may want to wait until closing is in sight to lock in.