A Guide to Conventional Loan Refinance
6 minute read
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June 10, 2022

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A conventional loan refinance can have multiple benefits for the proper homeowner, including:

  • Allowing you access to borrow on your home’s equity
  • Erasing mortgage insurance premiums
  • Reducing your monthly mortgage payments
  • Shortening the loan term

But, of course, asking the right questions is the key to finding the best financial solution.

You can look to AAA Banking as a trusted resource to help you better understand all aspects of home mortgages. We’ve put together this helpful guide about conventional refinance.

Let’s take a look to see if refinancing is the right option to save you money.

Reasons for a conventional loan refinance

First, let’s review a couple of definitions.

Refinancing

Refinancing means replacing your current mortgage with a better loan term and a lower interest rate. In the process of refinancing, your current mortgage is paid off using the proceeds from your new loan.

Conventional loan/Conventional mortgage

Conventional mortgages or loans refer to any type of loan that is not secured or offered by a government entity. 

Instead, these loans are available via private lenders such as banks, credit unions, and mortgage companies, including AAA Banking. One exception to this definition—some conventional mortgages are guaranteed by government-supported enterprises named Fannie Mae and Freddie Mac.

Why do homeowners choose a conventional loan refinance?

Homeowners frequently refinance their homes with conventional loans to:

  • Negotiate lower monthly payments
  • Agree on a better interest rate
  • Take advantage of a shorter loan term (the life of the loan)
  • Switch the loan type from an adjustable-rate mortgage (ARM) to a more predictable fixed-rate mortgage

As you can see, there are potential ways to save money, both in the long term and short term. But what are the requirements for a mortgage refinance?

Conventional refinancing requirements

While refinancing is generally a straightforward process, lenders will still require that borrowers meet specific criteria. These requirements may vary by lender but the following is an idea of what to expect. 

Credit score requirements

Your credit score is one of the biggest influencers on your ability to refinance. 

As you experienced when you applied for your current mortgage, a higher score usually equals a better rate. A minimum credit score of 620 is typically the standard requirement for most mortgage lenders.

Home equity

There is no requirement to have equity in your home to refinance

So, the equity in your home would be what you would receive should you sell your home today. The more equity that you have in your home, the more refinancing power you have. In general, it’s good to have 20% of equity built up if you want to refinance. 

This level is also the minimum home equity to eliminate private mortgage insurance (PMI) or mortgage insurance premiums (MIP). The 20% rule also applies if you want to choose a cash-out refinance.

However, if your home equity is under 20%, but you have a good credit score, it still may be possible to refinance. The downside is you might have to accept a higher interest rate or keep paying PMI.

Limit debts

A homeowner’s debt-to-income ratio (DTI) will also be a factor when seeking a refinance loan. Your DTI ratio comprises your total minimum debt per month divided by your gross income per month and is expressed as a percentage.

A lender will use DTI to gauge a borrower’s ability to repay the home loan. For most lenders, 43% or lower is the preferred ratio. The general rule is if your DTI is high, it will narrow your refinance options.

Closing costs

Closing costs need to be included in any calculation for the overall cost of refinancing. 

These costs can vary, but generally include loan origination fees, prepaid property taxes, appraisal fees, title fees, and credit check fees. Some states and lenders might have more or different fees as well.

But the good news is—many lenders include a special offer to homebuyers to roll all these closing costs into the new conventional loan itself. This option means you won’t have to pay out of pocket for the closing costs at acceptance.

Cash-out refinance 

Some borrowers choose to refinance to gain access to their home’s equity for cash. There are many reasons to do this, including financing home improvements, buying an investment property, or paying off credit card debt, just to name a few.

If you choose a cash-out refinance and have a specific type of loan, you must have your name on the home’s title for at least six months. Those loan types include jumbo loans, VA loans, and other conventional mortgages.

FHA loan / FHA mortgage

You will likely have to wait six months to a full year for an FHA cash-out refinance with FHA loans. There are exceptions to this rule—for example, if you have taken advantage of delayed financing or have inherited your home.

Keep in mind that most mortgage lenders will only allow borrowers to use 80-90% of the home’s equity for cash payments.

FAQ about conventional refinance

Make sure you get the answers to the following questions to determine if refinancing makes sense for you. 

What are the income disclosure requirements for refinancing mortgages?

Your lender will check your finances to set the refinance rates, and your income will be the most significant factor in determining that rate. To show your income, you can use:

  • W-2s
  • 1099s
  • Tax returns
  • Employment history
  • Paystubs (past two to three months)

If you’re self-employed, you’ll need to include:

  • The past two years of federal income taxes
  • Profit-and-loss statements

Do I need to show homeowner’s insurance to refinance?

Yes, you need to have a current policy on your home with enough coverage to satisfy the lender’s requirements. Contact your insurance provider to see if your coverage is sufficient.

Is title insurance required for conventional refinance?

Yes. You may have purchased a title insurance policy with your original mortgage agreement. This policy protects against liens, unpaid real estate taxes, and fraud and remains in effect so long as you own your house.

Conventional loan refinance—conclusion

With the right financial partner in your corner, qualifying for a conventional loan refinance can be managed easily. 

If you meet the requirements, you have the opportunity to lower your interest rate and lower your monthly mortgage payments. You also have the ability to get out extra funds for home improvements or other major expenses.

Regardless of why you want to refinance, AAA Banking is here to help with an easy application process, trusted guidance, and exceptional customer service.

Contact one of our loan officers today. A quick call could be the key to a brighter financial future.

Photo by Alena Darmel

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