Considering a home refinance? You’ll want to make sure your credit is as good as it can be. That’s because refinancing with poor credit will not get you the lowest interest rates. You’ll pay more to the banks over the life of the loan, and it will take you longer to break even on the costs of refinancing.
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One of the main reasons homeowners refinance is to secure a lower mortgage interest rate, but if your credit is only so-so, you won’t be able to refinance to the best rates. Your credit score affects the interest rates that lenders offer you when you shop for home loans. Here’s the rule: the higher your credit score, the lower your interest rate.
Know Your Score
Before you make the decision to refinance, it’s important to know your credit score and review your credit report. Why? There might be errors in your credit report, errors that are lowering your score. That’s why it’s a good idea to periodically confirm that your report is a true reflection of your credit history. If you find mistakes, write to the credit bureaus and ask to have those entries removed. It may take a while for your score to rebound, but it’s worth taking the trouble.
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Scores at or above 700 are considered good, but credit scores can go as high as 850. The higher your score, the more favorable your interest rate will be. That’s because your credit score tells banks how much risk they’re taking on when they lend you money. The higher the risk, the higher the interest rates.
If your credit score isn’t excellent, you won’t get the best mortgage rates. What’s the big deal, you ask? Well, when you refinance you take on costs. We don’t just mean the stress of gathering your paperwork, shopping for lenders and filling out forms. We mean actual refinance closing costs. If your refinance doesn’t get you a significantly lower interest rate, you’re less likely to recoup those costs in a timely manner. The truth is, refinancing isn’t always worth it.
Shop for Rates
We give the same advice to all mortgage-seekers, whether they’re first-time homebuyers or they’re refinancing: You should always shop around to make sure you get the best interest rate you can. Don’t go with the first lender who offers you a refinance mortgage – play the field!
If you think your credit score is hurting your chances to get a good rate, ask different lenders to tell you their credit score cut-off for the best rates. It doesn’t hurt to ask, right? Armed with information from lenders, you’ll have a goal in mind as you repair your credit.
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Boost Your Credit
If your credit is keeping you from the best refinance mortgage rates, take some time to raise your score before trying again on the refinancing. Negative events like a bill that went to collections will take seven years to cycle off your report. In the meantime, there are some easy ways to make yourself more attractive to the credit bureaus. As we mentioned, correcting errors is key. Beyond that, paying your credit card bills in full and on time every month is always a good move.
Here’s another score-boosting tip: limit your credit usage. That’s right – just because the bank gave you a $5,000 limit on your credit card doesn’t mean you should charge all $5,000 each month, even if you can pay it off in full. The best scores go to people who keep their Credit Utilization Ratio between 10 and 20%. Staying under 30% is a good place to start. Or, if living without credit card debt isn’t a possibility right now, you can still boost your score by making a dent in high balances.
Oddly enough, successfully refinancing can lower your credit score. Your new home loan will replace your old mortgage, leaving you with a shorter credit history, which can lower your score. Plus, any new credit usually results in a ding in your score. So although you want to have great credit when you refinance, expect your credit to take a temporary hit after your refinance deal goes through.
Your credit score isn’t the only factor that affects the interest rates banks will offer you. A solid employment history, a high income and a pile of assets can help offset imperfect credit. Still, if your credit isn’t great, you might want to hold off on the refinance. That way, when you do refinance you’re more likely to get an interest rate that makes paying closing costs worth it.
Sub-optimal credit isn’t a death sentence. Remember, you already own a home, which puts you ahead of many Americans. Put yourself on a credit rehab plan using the tips above and try shopping for refinance mortgage rates when your score has improved. The amount you’ll save in interest over time will be well worth it. With the money you save, you could contribute more to your retirement funds and pay off high-interest debt. Or at least that’s what we would do.
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