Lack of equity can derail attempt to refinance mortgage

With mortgage interest rates hovering around 50-year lows, refinancing is an appealing prospect for many homeowners. I think this is especially true considering the stock market’s August gyrations. Taking nervous energy and using it to focus on sure-thing money moves such as lowering payments or paying debt faster makes sense.

According to Freddie Mac’s weekly rate survey, a 30-year, fixed-rate mortgage averaged 4.22 percent. Slice the term in half, and the rate is 3.39 percent for a 15-year, fixed-rate mortgage. Problem is, refinancing isn’t always possible for homeowners. The key culprit? Home equity. Homeowners across the country are saddled with low equity – or negative equity – in their homes. While refinancing is possible with as little as 3 percent or 5 percent home equity, it may be less worthwhile after taking mortgage insurance and closing costs into account. If you don’t have home equity, you still may qualify using a government refinancing program called HARP (Home Affordable Refinance Program).

Recent retirees or families relying on self-employment or contract income could also find it difficult to qualify. Another hurdle for many burned by the recession is having a high enough credit score. The magic number to receive the very best rates is at least 740. You can still qualify for a loan with a score south of 740, but forget about getting a brag-worthy interest rate.

Surprisingly, for 15-year, fixed-rate mortgages, lenders don’t adjust the rate up or down based on credit score. Generally, you still need a credit score in the mid-600s to qualify for a loan, but if you do, your rate will be as good as your neighbor scoring north of 800.

Refinancing through FHA is also an option for those with scores in the 600s, but a recently increased upfront mortgage insurance payment makes it less attractive. So you are the poster child of financial health. Does it always make sense to refinance?

Five ways to get a lower rate:

1. Research your home’s value. Looking at your home’s tax value, checking online estimates at Zillow.com, or asking a real estate agent for a price opinion can help you determine how much your home might be worth. But those methods will be off 5 to 10 percent almost every time. The only way to know for sure if a refinance is in the cards is to order up a $400 appraisal.

2. Check your FICO credit score. It’s the most widely used score in the mortgage industry. If you are concerned about your credit, buy your FICO score from one of two credit bureaus for $19.95 ($39.95 for both) at myfico.com. You can also estimate your score at the site, or at www.creditkarma.com.

3. Call your current mortgage holder to see if they can offer a better deal without an appraisal and major paperwork. Compare any offer with at least one bank and credit union before ordering an appraisal. It may also pay to work with a mortgage banker who has access to multiple lenders.

4. Consider the term. Many families are switching from 30-year mortgages to shorter terms. Some are even throwing cash into the mortgage at the closing table. Considering a recent Bankrate.com survey that showed only 24 percent of Americans have at least six months of emergency savings, paying the mortgage faster may not be the best choice for many.

5. Create a plan for the money freed up by a lower monthly payment. Will you take the savings and throw that money back into the mortgage to reduce principal faster? Will you start saving for college or retirement or finally pay off that credit card debt? Come up with a plan. Otherwise, you risk whittling that money away with nothing to show for it.

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