Refinancing involves replacing an existing loan with a new loan that pays off the debt of the first one. The new loan should ideally have better terms or features that improve your finances to make the whole process worthwhile. In other words, getting a new mortgage to replace the original is called refinancing.
What Is Refinancing All About?
In any economic climate, it can be difficult to make the payments on a home mortgage. Between possible high interest rates and an unstable economy, making mortgage payments may become tougher than you ever expected. Should you find yourself in this situation, it might be time to consider refinancing. The danger in refinancing lies in ignorance. Without the right knowledge, it can actually hurt you to refinance, increasing your interest rate rather than lowering it.
In some cases, refinancing your mortgage might actually help your credit score.
If you’re stuck with an unaffordable home loan and high mortgage payments are preventing you from paying down other debts, refinancing into a lower monthly payment could do you a world of good. When the current mortgage and refinance rates are lower than what you are paying on your existing mortgage, you might want to jump on refinancing your home as soon as possible. But refinancing a mortgage can ding credit and might require some additional costs upfront.
When Should I Refinance?
The best time to refinance a student loan depends on whether it’s a federal or private loan. For example, refinancing a student loan usually makes more sense for private student loans because they don’t come with the benefits of federal student loans. That said, there are several situations where you may want to work with a student loan refinance lender:
- Your interest rates are high and/or variable so that you may accrue unpredictably high interest down the road
- Your credit score has improved enough to qualify for a more competitive interest rate
- You’ll qualify for a lower rate that will save you money over the life of the loan
- Your student loans are private so that you won’t sacrifice any federal loan programs like income-driven repayment or Public Service Loan Forgiveness (PSLF)
- Interest rates are lower than they were when you originally applied for the loan.
Refinancing a loan can lower your credit score in three significant ways:
Hard Credit Check on Credit Report
When shopping for the best-refinancing terms, lenders typically evaluate your creditworthiness by running a credit check. If you rely solely on the prequalification process, this may be limited to soft credit checks that won’t hurt your credit score. However, some lenders subject applicants to hard credit inquiries that stick around on credit reports for two years and can result in a drop in score of up to five points.
Multiple Loan Applications
Each time you apply for refinancing with a different lender, the hard credit inquiry will reflect on your credit report, and your score may drop. Luckily, you can limit this by applying through all of the lenders within a short period of time—preferably within a 14- to 45-day window, depending on the scoring model.
Refinancing a loan results in the original loan account closing, which reflects on your credit report. Ultimately, the impact of closing an account varies based on the size and age of the account, so keep this in mind when considering refinancing.