Two Types of Refinancing
There are two main types of refinancing – ‘rate and term’ refinancing and ‘cash-out’ refinancing. Here’s an explanation of each so you’ll understand the concepts and terminology when you apply for a mortgage refinance.
Rate and term refinancing
This type of refinance involves refinancing the existing balance of your mortgage. Any time you get a new mortgage you will get a new interest rate, so changing that part of the loan is inevitable. You may also elect to change the the length of the loan, also known as the term.
For instance, let’s say you are five years into your current 30 year mortgage and want to refinance. Your new mortgage could have a term of 25 years, in which case you would pay off your house by the same time as your original mortgage. Or, you might elect to refinance into another 30-year mortgage, which would mean your pay-off date would be five years later.
Rate and term refinancing is useful in several situations. You may have an adjustable-rate mortgage that is about to reset and you’d like the stability of fixed payments. If interest rates are falling, you may want to refinance to take advantage of those lower rates and lower monthly payments. Or, you may want to lengthen or shorten the term in order to either lower your payment (by switching from a thirty-year loan to a forty-year loan) or pay off your home faster (by switching from a thirty-year loan to a fifteen-year loan).
Cash-out refinancing
This is refinance option involves taking out a mortgage for more than you currently owe on your home, assuming there is a difference between the value of your home and the amount you owe on it. That difference is called equity and a cash-out refinance converts some of that equity into cash. As with any refinance, you’ll also be changing the interest rate and you do have the option to change the term as well.
Cash-out refinancing can be a smart way to access the equity in your home. Just remember that cashing out the equity in your home means that there will be less equity available when you go to sell or if you need to refinance again.
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