Refinancing can be a great way to save money and help you more quickly get rid of a mortgage. And with interest rates near historical lows, you may be wondering whether a new loan makes sense for you. Perhaps, but keep in mind that not all refinance offers are worth the trouble — or the expense. Before making a decision, take a look at the following six do's and don'ts.
1. Do Pull Your Credit Report and Score
Start out by pulling your credit reports so that you know exactly what a prospective lender will see. You don't want any nasty surprises, like having someone else's late payment showing up on your report by mistake.
Under federal law, you're entitled to one free copy per year of your report from each of the big-three credit bureaus — Equifax, Experian and TransUnion. You get it by visiting Annualcreditreport.com.
The report won't include your FICO credit score, which is a summary of the information in your credit reports that represents your potential credit risk. It will cost you $19.95 online to get the FICO report.
From a bank's perspective, "your credit score is a reflection of what kind of risk you are," says Bill Hardekopf, chief executive of LowCards.com, a website that provides comparative consumer information about credit cards. "The lower your risk, the higher your credit score will be. And the higher your score, the lower your mortgage rate will be."
2. Do Shop Around for the Best Rates and Lowest Overall Fees
In recent months, mortgage interest rates have fallen well below 4 percent, their lowest levels since the 1950s. But not everyone qualifies for the super-low rates. They're normally granted only to people who have excellent credit and at least 20 percent equity in their homes.
So pick up the phone and start dialing lenders. Have your credit score in hand — the person at the other end of the line will want to know it. Or you can shop online at mortgage comparison sites like HSH.com or bankrate.com, which will do the rate hunting for you.
"Just understand that rates change on a day-to-day basis. So shop on the same day," says Shah Tehrany, who runs the mortgage advice site AskShah.com.
Tehrany suggests asking about other refinancing expenses such as loan origination points, loan discount points and lender fees such as underwriting, processing and application fees.
Don't focus just on the interest rate. Instead, look at the overall APR — or annual percentage rate — on a loan, Tehrany says. That way, you'll be able to make a true, apples-to-apples comparison of the overall cost of credit from each lender.
Most large banks are charging lender fees ranging from about $1,200 to $1,700 for each mortgage closed, Tehrany says.
3. Do Use Caution When Taking Cash Out
Some people use mortgage refinancing as a way of retiring higher interest debt, such as credit card balances — you borrow extra for that. While eliminating that kind of debt is a good strategy, you don't want to do a "cash out" refinance deal only to run out and charge up the credit cards again, says Barb Mickelsen, a senior residential mortgage loan officer at Firstrust Bank in Conshohocken, Pa. The risk is that you'll end up both with big credit card balances and with a larger mortgage note that may become unaffordable.
4. Don't Let Low Rates or Teaser Rates Get You Into Trouble
It's easy to want to trade in your current mortgage for a new one when it seems like everyone else has a lower rate than you or when banks are offering "teaser" rates, like adjustable rate mortgages that start off low and then reset upward.
You may have family members, friends or your local, friendly banker telling you to follow the old, conventional wisdom that you should refinance whenever rates fall by at least 1 percent.
But getting a new mortgage doesn't always make economic sense.