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In recent years, many homeowners have been hesitant to refinance their home equity loans because loan rates have remained high. While the Federal Reserve does not set loan rates for mortgage loans, including interest rates on Home Loansthey tend to rise and fall with the Fed interest rate. The Fed has kept interest rates in a target range of 5.25% to 5.50% since May 2023, and not surprisingly, home loan interest rates have remained high in this high-yield environment. On August 9, the average interest rate for home loans was 8.59%.
But recently inflation has shown signs of cooling and Mortgage rates have started to fall in tandem. Many analysts now expect The Fed will cut interest rates in the coming months, and lenders have started to factor this into their loan rates. This means that if you have a Home loan It is possible that at some point in the past few years you have paid more than you would at today’s rates.
Therefore, it might be worth considering whether Refinancing your home loan makes sense. Before you do that, however, it is important to know the requirements involved.
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5 Important Home Loan Refinancing Requirements You Should Know
Do not begin refinancing your home loan until you are sure you meet these general requirements.
1. Sufficient equity
Before you get too far into the process, you should check whether you sufficient equity to qualify for refinancing. Equity is the estimated market value of your home minus your mortgage balance and any other loans secured against your home.
So if your home is worth $400,000 and you owe $200,000 on your mortgage and $50,000 on your existing home equity loan, your home equity is $150,000. In this example, your home equity of 37.5% is well above the 15% to 20% minimum that most lenders require to take out a home equity loan.
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2. Good creditworthiness
Credit score requirements vary by lender, but most want a FICO score of 680 or higher when refinancing a home loan. However, some home equity lenders have strict credit requirements and require a minimum credit score of 720, while others are willing to work with borrowers with bad credit and a score below 680 – especially if you have significant equity in your home. In general, however, the higher Your creditworthiness is, the greater your chances of getting a loan approved and securing favorable terms.
If your credit score is lower than desired, it may be worth trying Build your creditworthiness quickly before you apply. Even a modest improvement in your credit score from the average credit range (580 to 669) to the good range (670 to 739) could help you qualify for a lower interest rate, saving you thousands of dollars over the life of the loan.
“The easiest way to improve your credit score in a short period of time is to lower your credit utilization,” says Ralph DiBugnara, founder and president of Home Qualified in New York City.
Credit utilization is the amount of your available credit that you use on revolving credit, such as a credit card or line of credit. Generally speaking, the lower your credit utilization ratio, the better, so paying down your debt balances—or increasing your credit limit—can improve your credit score.
“A good utilization rate that improves your credit score is under 30%,” notes DiBugnara. “If a credit card has a maximum limit of $1,000, then the debt load would have to be $300 or less to achieve an improved credit score.”
3. Sufficient income
Lenders also want to verify that your income is high enough to make the payments on the new home loan you’re refinancing with. Your income is also a factor your lender will consider when calculating your maximum loan limit.
Therefore, have pay stubs, W-2 forms, tax returns and other evidence ready that proves that you have sufficient income to comfortably repay the new loan installments.
4. Low debt-to-income ratio
One of the most important factors that home lenders consider before approving or denying a loan is your Debt-to-income ratio. This measurement shows how much of your gross monthly income must be spent on your monthly debts. Lenders typically require a DTI ratio of 43% or less, with lower ratios being preferable.
“A low DTI shows that the borrower has extra cash flow that can be used for purposes other than paying off debt,” says Josh Jampedro, CEO of Home Loan Advisors. “It’s an indicator of overall financial strength, which is a sign that the borrower will be able to pay off the mortgage even if cash flow declines.”
5. Low combined credit-to-value ratio
Lenders also don’t want to approve a home equity loan if it leaves the borrower with too much mortgage debt. When reviewing your application, your lender will calculate your combined loan-to-value ratio (CLTV), which is the sum of all the loans on the property – including the primary mortgage and the home equity loan you’re applying for.
This number is then compared to the value of the property to determine the CLTV ratio, which lenders typically require under 90%, so if your home is worth $500,000, your total outstanding mortgage balances should not exceed $450,000 to meet this requirement.
Adam Fingerman, corporate analyst at Navy Federal Credit Union, points out that you can improve your ratio by optimizing your home’s value through renovations that increase the building’s curb appeal.
“Paying down your mortgage balance can be another strategy to improve your CLTV. By reducing your mortgage balance, you reduce your debt, which can lower your score,” says Fingerman.
The conclusion
If you have taken out a home loan with a high interest rate in recent years, it may be worth taking a look Current rates and run the numbers to see how much you could save. If refinancing could work in your favor, you should get rate quotes from at least three home equity lenders. Each lender sets its own loan criteria and offers different interest rates and terms, so shopping around and Home Loan Comparison could help you find the best deal.
