Have you decided it’s time to refinance? Maybe you want to tap into your home’s equity or you want to secure a lower interest rate. No matter the reason, you should prepare yourself for the refinance. Most borrowers want to get the lowest rate and best terms possible on their refinance. This is only possible when you prove to a lender that you are a low-risk borrower.
Follow the five steps below to help you get the most out of your refinance.
Check Your Credit and Improve It
Your credit still remains one of the most important factors when refinancing your loan. Lenders pull your credit before they do anything else (with your permission, of course). They look not only at your credit score but also at your credit history. They want to know that you’ve had good financial habits over the last two years.
You can pull your credit report from each of the three bureaus here. This will give you the opportunity to look at your credit history, not your credit score. Do you notice any patterns of late payments? Do you have overextended credit? You’ll want to fix these issues before you apply for a refinance. Late payments must be brought current and your credit balances shouldn’t exceed 30% of the credit line.
You may also want to check your credit score. You can do that with many banks and/or credit card companies. Check with those that you bank or carry credit cards with to see who offers free access to your credit score.
It’s best if you have a credit score over 680, especially if you want to use conventional financing. If you will use government-backed financing, you may be able to get by with a credit score as low as 580, but the higher your score is, the better the interest rate a lender will give you.
Save Money as Reserves
Lenders like to see that you have reserves or an ‘emergency fund.’ They want the funds in some type of liquid account; in other words, in an account that you can easily convert to cash, such as a checking or savings account. Stocks, bonds, and money market accounts may also suffice, though.
Your goal should be to save as much as 3 months of your mortgage payment in a liquid account. Of course, the more money you have saved, the better your chances of getting approved for a refinance. Keep in mind, this usually isn’t a requirement to refinance, but it can help you get the best rate and terms when you do want to refinance.
Pay Your Bills Off
Do you have a lot of outstanding credit card debt? Even though lenders let balances that are 30% or less of the available credit slide, it doesn’t mean it doesn’t affect your loan approval.
The best situation is to pay off as many debts as you can before you refinance. This way your debt ratio is as low as possible when you apply for the refinance. Fewer debts mean less competition for your money when it comes to paying your bills. Lenders will feel confident that you can pay your mortgage and will reward you with a lower interest rate and/or better terms. This definitely comes into play if you apply for a cash-out refinance. Tapping into your home’s equity is a risk for lenders, but if you have a low debt ratio, they may be more willing to provide you with the loan.
Stabilize Your Employment
Lenders don’t like to see applicants that hop from job to job. They want borrowers that have had the same job for a decent amount of time. Generally, they want to see you at the same job for at least 2 years. This shows the lender that you have consistency and reliability.
If you change jobs within the last 2 years, it doesn’t mean you won’t be able to refinance. Lenders might be a little more cautious though. They will want to know why you changed jobs and how it compares to your previous job. For example, are you making the same amount of money or more? If you make less, that is a red flag for lenders. Are you working in the same industry or did you change industries? That’s another red flag for lenders. If you did change industries, they want to know what level of expertise you have for that industry in order to prove that you can succeed (went back to school, took training, etc.).
Stabilize Your Income
Your income is probably one of the second most important things lenders look at when deciding if you deserve to refinance. They generally look back over the last 2 years. This means if you changed jobs and make less this year than last year, the lender will know.
You should choose to apply for a refinance when you know you’ve had stable income for at least the last 12 months, but 2 years is even better. Lenders like stability, which is even more important when you are self-employed or work on commission. Anyone except those on a regular salary should try to keep their income as stable as possible with as few write-offs on their taxes as possible in order to increase their chances of securing approval for a refinance.
Taking the time to perfect your loan application before you refinance will increase your chances of approval. Lenders like to see consistency, reliability, and the least amount of red flags as possible. In other words, they don’t want a borrower that might default on their loan. Make yourself look as good as possible financially, and you’ll have a better chance at approval.