Proof of Income

First, you will need proof of income. Most lenders will accept this in the form of your last two or three pay stubs, which show not only your income but your regular deductions and taxes. If you are paid once a month, two months’ worth is usually sufficient; if you are paid more often, you should gather the equivalent of two months’ worth of pay stubs, especially if you have deductions taken out at different times during the month, such as insurance premiums or dues for organizations. Be sure to make copies of all your pay stubs and keep the originals in a safe place.

Remember to include all forms of income. If you have investment income as well as your regular salary, be sure to put that down on your application and keep a copy of your latest statement providing proof. Similarly, while you do not have to put down income such as child support or alimony on a loan application, you should probably include it, especially if your income is low, so that you will have more options with the lender about your refinance.

Current Debt

You will also need a list of your current debt load. While most lenders do not require you to collect your actual bills, allowing you to fill out a list instead, collecting all your bills is a good way to see balances on revolving credit lines, required monthly payments and other information. Make a table showing the name of the creditor, the balance owed, and the monthly payment. Keep one month’s bills together so you can easily find account numbers and other information if needed. Remember, when lenders ask about “debt load,” they mean accounts with a balance, not your utilities or other recurring monthly expenses, such as groceries. Keep a separate list with those budgeted amounts handy, as well, in case your lender asks for a projected budget.

Tax Returns and W2′s and/or 1099′s

You will need a copy of your last W-2 statements and your tax returns. Some lenders ask for two years’ of tax returns. These not only verify your income, they show trends in your earnings, and give information about investment income or loss which may affect your total income level as calculated by the lender.

Bank Account Statements

Your savings and other accounts must also be documented. A bank statement of your savings account is sufficient if there is not a lot of change in the amount; you can also ask for a printout of your savings history for the last year at your bank. Lenders will usually not be satisfied with copies of your savings passbook, although if they are not considering this money as part of the proof of required income to make the loan, this may suffice.

Prior Appraisal and/or Survey

Most lenders will always require a current appraisal (especially in this market) however if you have a survey done within the last 5 years it may save you a few hundred dollars as typically any survey done within the last 5 or 10 years is often acceptable.

Credit Report?

As for your credit report, its a good idea to understand what your credit score is well before applying for a loan however mortgage lenders will not accept any copy your provide. When you apply for a mortgage you give a mortgage lender permission to run your credit report themselves. Keep in mind that any time anyone requests a credit report, it affects your score slightly; lenders look at this as an indication that you may be about to try to borrow large amounts of money, which will affect your debt ratio. The more “hits” you have on your credit report, the more it will affect your score. Some lending brokers get around this problem by requesting your credit report prior to sending your applications to their various lenders but there is always a potential short term risk of damaging your credit score by shopping around too much.

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“Six to eight weeks from application to closing is probably a fair estimate”

The reason it takes so long is simple – a refinance is not the simple action that some lenders advertise. There are several things that should be done with a refinance loan which bear a strong resemblance to the process of acquiring your initial mortgage.

Initial Application Review

First, the lender looks at your application and “pre-approves” you for a loan. Pre-approval simply means the lender is willing to move forward with your loan, not that you are guaranteed to get it. It is important to put all your information down accurately and clearly on your application or you may experience delays.

Property Appraisal

Next, the lender will take several steps to secure your loan. Your house must be re-appraised for value, which means you will have to schedule a time for the appraiser to come by and see both the exterior and the interior of your house. The appraiser will take measurements, make notes on your home’s condition, and compare your home to others which have recently sold in your neighborhood. This will allow your loan company to set a value on your house from which to figure your new mortgage amount.

Title Examination

The mortgage company has to request a copy of your mortgage title and have it examined to ensure there are no other liens present and a new mortgage can be secured in the primary position against the property. Depending on where you live a title search could take a couple days to a couple weeks.

Verification of Application Documents

While the appraisal is being conducted, your lender will be checking and verifying your employment status and income, checking on your savings and checking balances, and reconfirming any information which was unclear in your application. The lender will have a copy of your credit report, and may call you several times to discuss questions about your debts or payment history. Be very honest in this process; most lenders understand that everyone can miss a payment once in awhile, and will not disqualify you because of this. However, finding out that you were dishonest about money owed or your credit history will disqualify you very quickly from consideration for your new loan.

Mortgage Loan Underwriting

Once the lender has the appraisal, a solid credit history, and all your income verified, the company will begin to review your loan. For some groups, this is done by individuals, but in most cases it is accomplished by a group. This is for your safety as well as the company’s; most lenders want more than one pair of eyes on your application to spot potential problems and possibly get them fixed. During the review, the lender may ask questions of your agent or broker, who may in turn call you for clarification. It is important to be as thorough as possible in your answers.

The lender’s review board will do one of three things with your loan application: reject, accept, or ask for revision. Rejections usually occur because of bad credit scores; if your score is too low, you can work on pulling it up and apply again at a later date. Most lenders will not consider you for a refinance with a credit score of less than 700, although there are lenders in the secondary market who deal with applicants with lower scores; of course, you will pay much higher interest rates in these cases.

Follow Up Documents

If your lender asks for revision to your loan application, get whatever documentation you need quickly and forward it to your agent or broker. He or she will rush it to the lender’s review board; be aware, however, that they may have moved on to other applications and it may take some time before they return to yours.

Scheduling a Closing

If your application is accepted, the review board will contact your mortgage broker or agent, who will contact you with the good news. The process is not quite over, however; now you have to schedule a closing. Some lenders will send a person to your home to go over the paperwork with you; however, most lenders schedule closings in lawyer’s offices to protect everyone’s interest. The lawyer will have to schedule you as your schedule and his or hers permits, so it may be some time before you can get in for your closing.

Altogether, you can count on this process taking around six weeks, although eight is probably a better estimate with many lenders. There are companies who can process a mortgage refinance a little faster but nothing will happen overnight.

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Read your Mortgage Note Carefully

Some prepayment penalties expire after a certain amount of time; others are in place for the life of the loan. Your mortgage will give you these terms, and will also help you calculate the amount of the prepayment penalty—most are expressed in terms of a percentage of the principal balance of the loan. If you have had your mortgage for a long time, in other words, the lender will not charge you as much to prepay it as if you try to refinance a few months after acquiring the loan.

You may also be able to talk to the lender if you have had your mortgage more than five years. Some lenders will waive the prepayment penalty clause in return for guaranteeing a mortgage payoff, and if the lender is a good customer. Although this is a less common approach, it does not hurt to ask your lender to waive the prepayment penalty. This may be more likely to happen if you are doing business with a hometown bank rather than one of the big lenders.

Consider Refinancing with the Same Lender

If you must pay a prepayment penalty, you may be able to avoid it if you refinance with the same lender or one of the lender’s subsidiaries. By keeping your business with the same company, you show good faith and the company may, in turn, waive this fee. May is the key word, not many mortgage lenders work on the same good faith however.

Is it worth Refinancing if I have a Prepayment Penalty?

Assuming you do have to pay a prepayment penalty, you can judge whether the refinance is worth the cost. It is not difficult to figure this cost if you have the information from your mortgage. Here is an example of how to figure this cost:

Perhaps you have a mortgage which provides for a 1% prepayment penalty if you refinance within the first three years of the mortgage, and .5% thereafter. You have owned your home and kept the same mortgage for seven years, so you will be using the .5% figure. Your principal balance is $100,000, so your prepayment penalty will be $500.

With a small prepayment penalty like this one, it is probably a good idea to simply pay the fee and get your refinance so that your interest rate will be lowered. You will likely save at least this much during the first year in interest alone, and be able to curtail your principal far more quickly. In this case, it is much more financially feasible to pay a small fee and reap greater savings down the road.

On the other hand, using the same example, suppose the prepayment penalty was a flat 3%, no matter how long you have had the loan. In that case, your prepayment penalty would be $3,000. By the time you add in your closing costs for the refinance, you may be up to $5,000 or more—which will take you quite some time to pay off if you are only saving $100 or so a month with your new payment. In this case, it might be better to seek a refinance with your current company, if you can get a good interest rate.

However, if your current interest rate is terribly high, you may still save enough with a refinance to justify paying the prepayment penalty. It is up to you to determine how much you will save with a new loan product, and this should be based on how long you plan to keep the house, how high your current interest rate is, and how low a new interest rate you will be paying. It may, ultimately, be worth it to pay the prepayment penalty if you will save thousands of dollars over the next few years with your new mortgage.

It makes sense to examine your new refinance for prepayment penalties, as well. In today’s competitive mortgage market, more and more lenders are getting away from prepayment penalties, so it is not likely that you will be forced to accept one in order to get a mortgage. Tell your potential lenders frankly that you do not want a prepayment penalty with your new mortgage, and see if they will work with you.

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Tax Laws and Refinancing

The tax laws regarding refinanced mortgages can be complicated and tricky to the layperson, so a good basic understanding is essential. Remember that the treatment of mortgage refinancing by the tax laws hinges on how the money is used which you receive from the refinance.

If you borrow more money than the balance on your mortgage, the excess is treated differently than the original principal amount. Perhaps you owe $225,000 on a house which is worth $425,000. You choose to borrow $400,000 and use the extra $175,000 to pay off bills or pay for college. This means that the mortgage interest on only $225,000 of your mortgage is deductible, while $175,000 is considered a “home equity” type of loan. Interest on this money is taxed differently than your original mortgage interest.

On the other hand, you might use that extra $175,000 to make improvements to your home, or to put a down payment on a second home or vacation property. If you do this, the entire amount of interest may be deductible, as the IRS views this as using the mortgage to buy a residence. The residence in question, however, must be one in which you live at least part of the time; rental properties fall under investments, and do not count toward your mortgage interest deduction.

The Home Equity Loan rule

You may, however, be able to sidestep this rule under the “home equity loan” rule. This allows you to deduct all of your primary home’s mortgage interest as long as the excess over the principal or acquisition cost does not total more than $100,000. The limit on acquisition, or original principal, is $1,000,000. What this means is that you can borrow up to $1,000,000 to acquire or refinance an existing principal loan on your home, and up to $100,000 in equity to pay off bills or use for other purposes.

Using the above example, the homeowner would be able to deduct the interest on $325,000 of the mortgage–$225,000 principal balance plus $100,000 in home equity. The interest on the other $75,000, however, would not be tax deductible.

In addition, this interest problem is inherited in each loan you make on the home. You cannot run up the principal balance with a home equity loan, then turn around and refinance as if the principal was all acquisition—even though at that point you would have to pay that amount to “acquire” the home. There are exceptions in some states for divorce or other property dissolution problems, but in general, once you refinance, you have lost the interest deductions over $100,000 plus the acquisition cost for the rest of the time you own the home.

Alternative Minimum Tax

If you are subject to Alternative Minimum Tax, or AMT, there is another restriction which can apply. If you are subject to AMT, you may not be able to deduct home equity loans at any level. This depends on the type of loan and the purpose for which it is used. Generally, in the case of home equity loans, no deductions can be made unless the proceeds are used directly to upgrade or repair your home—the IRS has a definition for “substantially improved” which must be met in order to take this deduction.

This is all very confusing to the average person. Your best bet is to talk to your attorney or accountant prior to refinancing to see what kind of impact your refinance will have on your tax deduction situation. Generally speaking, the more you owe on your home, the less impact the tax deduction rules will have on you. If you owe very little on your property, your accountant or attorney may advise you not to refinance, as all of the interest you pay may not be tax deductible. It is sometimes possible to “sell” your home to a member of your family, although the IRS has strict rules about what constitutes a sale, as well. Be sure to discuss any plans you have with your accountant and a tax attorney, especially if you are unsure about what the tax consequences may be.

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The Truth about a No Cost Mortgage Refinance

In reality, there is no such thing as a true “no-cost” mortgage refinance. Any mortgage refinance will have fees for document processing, transactions and taxes, and may also include “points,” which are percentage points collected by the lender to fund the mortgage. Fees and taxes are a part of any mortgage transaction and cannot be avoided.

How, then, do lenders get away with advertising “no-cost” mortgages?

The answer is simple. The “costs” associated with the mortgage are not charged to the client immediately, but are rolled into the principal amount of the loan. This allows the client to refinance with little or no immediate cost, but in the long run may cost more.

In order to understand why no-cost mortgages may actually be more expensive than those which charge fees up front, it is important to understand how a mortgage really works. Most people think of a loan in terms of simple interest, in which a certain amount is charged each month on the principal paid. This is not how a mortgage is repaid, however, and the secret of amortization has allowed lenders to make billions of dollars in the mortgage industry.

Mortgage Amortization and the effect of a No Cost Mortgage Loan

Amortization is the process which accumulates interest on the principal balance each month, beginning with the initial amount of the loan. The secret to amortization is that the interest is charged each month on the principal balance, not in even increments, but in gradually dwindling amounts, spread out over the life of the loan. For example, suppose you borrowed $100 at 10% interest. If you paid the loan at $11.00 per month under a simple interest plan, you would have the loan paid in ten months. However, if the loan was amortized, the first payment might be $9.50 in interest, and only $1.50 in principal. This means that your new principal loan balance the second month is still $98.50, and interest is figured on that amount.

Using this example, it is easy to see how amortization can cause you to pay for years and barely make a dent in your principal. It is in your best interest to have the lowest principal balance at all times—but by rolling in your closing costs, you are actually adding months, and possibly years, to your repayment plan, because very little of that cost will be paid initially, and it will take even longer to get your loan paid off. In the meantime, the lender is making interest money every month on your higher principal balance.

How to accelerate your Mortgage Amortization

There are ways to beat the amortization game. By paying just a bit over your payment each month, and designating that money as “principal curtailment,” you will find that many of your back-end payments will disappear, shortening your loan term. For example, suppose you had a $100,000 mortgage for 30 years at 7% interest. Your payment would be $665.30 per month, principal and interest included, for 30 years. This is actually a total repayment of $239,508! However, by adding an additional $34.70 per month to your payment, making your total payment $700.00 per month, you will actually pay your loan off in 25.5 years, and save a total of $34,595.60 in payments.

It is clear that it is in your best interest to pay more on the front end of your loan, rather than less. Every dollar you keep off your principal results in tremendous savings you to over time. Therefore, before considering a no-cost mortgage, run an amortization schedule and pay with the numbers to see how adding to your payment can reduce your total cost. You can run an amortization schedule here as long as your have loan principal amount, your interest rate, and the number of  months you will be paying on your loan. Under the initial information you enter, there is a section to add a particular amount to your one-time payment, or a one-time or yearly amount to principal curtailment.

Why do some people still choose a No Cost Mortgage Refinance?

be No-cost mortgages do have a place. If you are particularly strapped for cash and need a refinance, you can use the benefits of a no-cost plan and later pay more on your mortgage to curtail your principal. However, if you are going to do this, be sure that you borrow only the amount you need, without rolling in a great deal of debt reduction payments as well. If you pay off debt with a refinance without a plan to repay the mortgage quickly, it is easy to find yourself in an even worse financial position when you once again take on credit card or other debts.

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Compare Mortgage Refinancing Rates

Most people start the search for a new home loan online. While this first step to exploring refinancing options may be very helpful to understanding your options you still need to understand the different elements of qualifying for a mortgage and the costs associated with a new home loan. Simply comparing interest rates is never enough and can often lead you into programs which end up costing you thousands of dollars in unnecessary fees.

Understand your Credit Score

You should always know your credit score well ahead of shopping for a new mortgage loan. It is always a good idea to “clean up” your credit prior to applying for a loan by reviewing your credit history and disputing any inaccurate information. This can actually save you thousands of dollars over the life of your loan, as your interest rate is directly tied to your credit rating.

Always Speak with Current Mortgage Lender

You should also talk to your current lender first. Many lenders are more than willing to refinance your loan to a lower interest rate in order to keep your business. You can often get a refinance without an appraisal or other costs associated with new lenders, and save yourself hundreds or thousands; plus, you will be dealing with your current lender, with whom you already have a working relationship.

However, even if your current lender is willing to refinance you still need to shop around and compare all your options. While credit requirements have tightened for most lenders, there are still plenty of good deals out there if you are willing to take a little time to look for them.

FHA Refinance

One of the most prominent lenders in the nation is FHA, or the Federal Housing Administration. FHA loans are historically lower in rate and more flexible than many bank-owned loans, and since they are guaranteed by the federal government, if you can qualify for one you are likely to be approved quickly. These loans will provide up to 97% of the value of your home, so if you have a substantial amount of equity, it is also fairly easy to be approved. FHA loans are often given to first-time homebuyers, making them a great choice for younger homeowners, who often find it difficult to find good rates with conventional lenders. The requirements for an FHA loan are fairly strict, so it is important to research and see if you qualify for an FHA refinance.

VA Refinance

If you are a veteran, you may also qualify for a VA loan. VA loans are only available to veterans, but they offer as much or more flexibility with payment options and low rates as FHA loans. Like FHA, VA loans are also guaranteed, so many lenders are willing to underwrite them. Talk to a VA loan representative to see what your VA options may be.

Refinance Options for Homeowners Underwater

If you do not qualify for an FHA or VA loan, there are other options for you to consider. In 2008 and 2009, Congress passed bills which set up the “Homeowner Affordability” plan in response to record foreclosure rates. The new HARP, or Homeowner Affordability Refinance Program, allows homeowners to refinance up to 105% of the value of their homes. The reason for the 105% is that many homeowners found themselves “upside down” on their mortgages, meaning that they owed more on the house than it was worth after a drop in value because of the depressed housing market. If you are upside down on your mortgage, you may be forced to come up with substantial cash to refinance through a commercial lender; a HARP refinance may make more sense.

Compare Mortgage Companies

If you do not qualify for any government-backed programs, it is time to consider traditional mortgage lenders. Keep in mind that most lenders will “hide” significant refinance costs in the terms of the loan, and these costs can add up quickly. A good rule of thumb is to see if the fees you will pay, divided by twelve, will be absorbed in your new mortgage with a years’ worth of payments. If the figure you determine, added to your new payment, is more than your current mortgage, it may very well be that this is not the mortgage for you.

There are many websites dedicated to sending your application to numerous lenders, who will then bid on your refinance loan. The higher your credit rating, the more lenders you will have vying to give you low rates. However, always be sure to examine each offer carefully for hidden fees before making a decision.

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Is there really such thing as a No Cost Refinance?

There is no such thing as a “no-cost” refinance. No mortgage lender could stay in business by giving away lower interest rates without any type of return on their investment. What these lenders typically do is advertise no “up front” costs for your mortgage refinance. This means, however, that the costs will be added to the total of your mortgage principal or offset by a higher interest rate. While the extra amount on your payment may not be noticeable, it will become very obvious if you choose to refinance again, or if you choose to pay your mortgage off early. Mortgages are amortized so that the principal is the last thing to be paid; your first payments will be mostly interest. The amount of principal you pay over time will gradually increase. By adding your financing costs to the principal, you are actually paying interest on more money for much longer than if you paid these costs up front.

Always ask for a Breakdown of the Costs – The Good Faith Estimate

If you are considering a mortgage refinance, ask for a breakdown of the costs—not as they are rolled into the loan, but as they are actually calculated. You will probably be surprised at the amount of the “loan fees” and “processing fees” most lenders tack on to the cost of your mortgage—money you might never have noticed if it was rolled into your mortgage principal. It is possible to negotiate these fees with the lender if you agree to pay them up front, and you can easily compare offers from multiple lenders this way. Mortgage lenders are obligated to provide you with a good faith estimate however there are also obligated to do many things they don’t always do.

Consider the Term of the New Mortgage

Another thing to consider is how long you will have your mortgage. If you are refinancing for thirty years, you will pay the maximum amount of interest in this time. Ask the lender to give you projected payments for a 15-, 20-, and 30-year loan scenario. You will be very surprised at how little it costs, relatively speaking, to have a 15-year loan versus a 30-year loan. If the difference is only $100 dollars or so a month, consider that you are saving a full fifteen years of interest by choosing the 15-year loan. It quickly becomes obvious that the shorter the term of your mortgage, the less money you pay.

Interest Rates and Terms of the Loan are Critical

You should also be very careful to understand the terms of the mortgage itself. If you choose an ARM, or adjustable-rate mortgage, with a low introductory rate, you may be unpleasantly surprised in a year or so when the rate suddenly skyrockets. If you are considering an ARM, be sure to ask the lender to put in writing the terms of how much the loan’s interest rate can be increased, and ask for a projected payment in the “worst case scenario.” You should also avoid loans with “balloon payments,” which is simply a fancy way of saying that you avoid paying most of your principal up front, only to be faced with it in a lump-sum payment down the road. Many people have lost their homes due to ARMs and balloon payments.

Staying with a fixed-rate, shorter-term mortgage is usually the best choice from a financial standpoint. However, even fixed-rate loans can have significant hidden costs. If you are required to pay for an appraisal, loan fees, processing fees, and title costs, your closing costs could easily reach thousands of dollars. Further, if you are required to pay “points” on your mortgage, the total closing costs will definitely be significant. Points are percentages of the principal charged up front by the lender, usually in increments of 1%, 3% or 5% (1, 3, or 5 points). This is money that you must come up with to finance the loan, and which you will not get back over the life of the mortgage.

Knowing the hidden fees lenders often tack on to mortgages can help you save significant money over the life of your mortgage. The old rule still applies, and is still true: if it sounds too good to be true, it probably is!

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