Cost of Refinancing

What is the Cost of Refinancing?

Cost of Refinancing means the various costs incurred in the process of replacing an existing debt obligation with another debt under a new set of terms.  This can be an effort to reduce EMI, lower interest rates, take cash out of home for large purchases or change mortgage companies for some or other reason.

Refinancing occurs when an individual or an organization revises its terms of finance, including repayment schedule, rate of interest, credit, etc; which will usually be opted when the refinanced loan is available at a lower rate of Interest or higher maturity period with similar net cash outflows and this involves various costs known as refinancing cost which usually includes appraisal cost, title search, application fees, etc and generally runs between 2% – 4% of the total loan amount.

The terms and conditions of refinancingRefinancingRefinancing is defined as taking a new debt obligation in exchange for an ongoing debt obligation. In other words, it is merely an act of replacing an ongoing debt obligation with a further debt obligation concerning specific terms and conditions like interest rates tenure.read more may vary widely by country, or state, based on several economic factorsEconomic FactorsEconomic factors are external, environmental factors that influence business performance, such as interest rates, inflation, unemployment, and economic growth, among others.read more.

Types of Cost of Refinancing

Cost of Refinancing Types

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#1 – Refinance Through Cash-Out

In cash-out refinance, the borrower can use the equity built up to get cash. It is a new loan for the amount of mortgage. Apart from this, it also includes cash received that would be up to 80% of the loan-to-value ratio Loan-to-value RatioThe loan to value ratio is the value of loan to the total value of a particular asset. Banks or lenders commonly use it to determine the amount of loan already given on a specific asset or the maintained margin before issuing money to safeguard from flexibility in value.read more.

#2 – Refinance Through Home Equity Loan

A home equity loan is also known as the second mortgage. It is a separate mortgage. With home equity loans, the borrower can take up to 80% of the loan-to-value ratio.

#3 – Rate and Term Refinance

It’s a typical mortgage refinance. The main purpose is to take benefits of the revised low-interest rates and new loan term based on new criteria.

#4 – Refinance Through Streamline

Government-backed home loans are available for streamline to refinance. The processes of such refinance are usually very quick and easy.

Cost of Refinancing Formula

It is the summation of closing costs and fees wherever applicable.

Cost of Refinancing

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Scenario 1: Closing costs and various fees are involved.

Cost of Refinancing Formula = Closing cost + (Escrow & Title Fees, Points, Taxes, Appraisal Fees, Lending Fees, Insurance Fees, Credit Fees, etc.)

Scenario 2: Closing costs are borne by the lender and various fees are involved.

Cost of Refinancing Formula = Escrow & Title Fees + Points + Taxes + Appraisal Fees + Lending Fees + Insurance Fees + Credit Fees etc.

Cost of Refinancing Example

Suppose, Mr. Bill has taken a mortgage loan and thinking of refinancing it. We have the below information:

Cost of Refinancing Example 1

Points calculation:

Cost of Refinancing Example 1-1

In the above example, the total cost of refinancing = Points + Closing cost

=$(2,295.72+1200) = $3,495.72.

Components of Cost of Refinancing

The cost of refinancing can vary depending on the interest rate of the loan, a credit score of the borrower, relationship with the lender, and the amount of loan. There are various components of Cost of Refinancing:

Components of Cost Refinancing

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Advantages of Cost of Refinancing

  • Reduction in the interest rate of the mortgage. Combine with an increased credit score, people can procure loans at lower rates. It impacts monthly payments as well.
  • Many people refinance in order to obtain money. It can be used for various purposes like purchasing a car, reducing credit card debt, etc. This can be done by taking equity out of the home.

Disadvantages & Limitations of Cost of Refinancing

  • For borrowers with a perfect credit history, refinancing can be a good way to convert a loan to obtain a lower interest rate. Refinancing can be risky for borrowers with bad credit history, or with too much debt.
  • There could be penalties incurred in the cost of refinancing which could be thousands of dollars.
  • Refinancing costs may include paying for an attorney and bank fees which can ultimately not be a worthy affair.

Important Points

  • Borrowers must maintain their first and original mortgage for at least 12 months before refinancing as most banks and lenders mainly check for the criteria to be fulfilled before proceeding. Also, the borrower must check the lender for the knowledge of all possible restrictions.
  • Borrowers looking for refinancing may get numerable offers by different lenders but sometimes he may get the best interest rate staying with the original lender.
  • Interest rate environments are cyclical and impact new credit and credit refinancing. National monetary policy, economic cycle, and market competition can fluctuate interest rates for consumers and businesses.

Conclusion

We can conclude that the cost of refinancing includes any fees and closing costs. It is always important to shop around for low or free refinancing. It’s worth considering saving thousands of dollars against wrong refinancing while getting a new line of creditLine Of CreditA line of credit is an agreement between a customer and a bank, allowing the customer a ceiling limit of borrowing. The borrower can access any amount within the credit limit and pays interest; this provides flexibility to run a business.read more.

Recommended Articles

This has been a guide to the Cost of Refinancing. Here we discuss how to calculate Refinancing Cost along with its formula and example, types, advantages, and disadvantages. You can learn more about accounting from the following articles –

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