How to Prepare for a Mortgage Refinance
Are you thinking of applying for a mortgage refinance? If so, there are a few things you can pay attention to before you start your application process to ensure that it goes as smoothly as possible.
From boosting your credit score to lowering credit balances, here are some top tips to help you prepare for your refinance.
Let’s dive right in!
Improve your credit score
While different financial advisers would have varying opinions, the consensus is that 740 is a good benchmark to aim for as your credit score. Yes, it’s possible to land a mortgage refinance even if you have a lower credit score, but the process can be so much harder. They might use additional screenings and need more documents to assess your ability to repay the loan.
When it comes to your FICO score, for example, which is often used by lenders to determine a borrower’s credit risk, you need to pay attention to your payment history, indebtedness, types of credit, how long you have been borrowing, as well as new credit accounts.
It can be a good idea to focus on trying to improve your credit score, especially if you know that you will be applying for a refinance soon. There are a lot of things you can do to improve your credit, namely by paying your bills on time and in full.
Lower your credit card balance
The next step to take when you’re preparing for a mortgage refinance is to lower your credit card balance. Did you know that your current balances make up about 20% of your credit score? This will help tighten your finances and make them look better for your application.
This also relates to your debt utilization ratio, which is how much debt you have concerning how much debt you can have. The formula for this is your debt divided by available credit.
For instance, if your available credit totals $10,000 and your balance is only $2,500, your debt utilization would be 2,500 divided by 10,000, which is 25%. This is a good ratio, and we recommend aiming for below 30%. Remember that a lower ratio is better as that means you don’t tend to max up your credit limit.
At least a few months before you apply for a refinance, make paying off credit cards and lowering the balance your priority. Try not to spend too much in the meantime, especially on large purchases that may rack up your credit balance.
Work on your debt-to-income ratio
It also pays off to improve your debt-to-income ratio, which simply refers to the percentage of your monthly income that you use to pay debts. In short, it matters how much you make compared to how much of that you pay for debts because this is something lenders will consider.
If you know that you’ll be applying to refinance your home loan, start focusing on decreasing your debt balances. This includes an auto loan or student loan that you might have. Try to make more in payment than the minimum requirements, which means you should refrain from spending extra money on splurging for a while.
Focus on savings
Last but not least is to focus on your savings. While it’s important to use your income to pay off any debt, it is no less crucial that you allocate some of it into savings. To start with, you will need some cash for closing costs when refinancing and down payment when purchasing a home.
It can make a huge difference if lenders see enough amount in your savings account that can cover the payments in at least the first couple of months.
Furthermore, you may even want to plan for an emergency fund for at least eight months’ living costs. This is a good safety net to have in case you temporarily lose your main source of income. And the best way to keep your emergency fund? Your savings account, because it is easy and fast to access.
On that note, a lot of people have the misconception that their second car could be sold when they need to tap their emergency fund. But the truth is the selling process takes time, a couple of weeks at the very least, which may not be fast enough for emergencies.
At the end of the day, refinancing your mortgage can be a helpful financial tool if you want to get a lower mortgage rate, shorter loan term, or new loan types. These are just some of our top tips to help get your finances in shape before you apply for your refinance.