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Guest Post by Lyle Solomon In theory, refinancing your mortgage is brilliant, especially now that interest rates are declining. Still, it may only sometimes be feasible or even desirable for some homeowners. To assess whether a refinance makes financial sense, homeowners should ask the following questions before making a decision. How can you qualify for refinancing? You must satisfy the requirements set forth by each lender to be eligible for a refinance. Find out from your lender what requirements you must fulfill in the following areas: Credit score Your credit score is a three-digit figure showing your history of handling credit and loans. You should be able to determine from your lender what credit score is required to be eligible for each loan form. DTI (debt-to-income) ratio Your DTI, expressed as a percentage, lets your lender know how much of your income is used for recurring, regular spending. If your DTI is high, you risk having fewer savings and missing mortgage payments. Your lender ought to be able to explain how to calculate your DTI and provide you with the maximum DTI required for each type of loan. Home equity The portion of your loan principal you have already paid off is your home equity. Before you may refinance, the majority of lenders demand that you have some equity in your house. You should be able to learn how to calculate your present home equity from your lender, as well as how much equity you require to be eligible for a refinance. Will your monthly payment go up or down? Your monthly payment will vary depending on the type of refinance you select. If you keep your term the same and refinance at a lower APR, your monthly payment will decrease. If you refinance to a longer term, your monthly payment will be reduced, but you'll pay more interest over time. If you refinance for a shorter period, your monthly payment will go up, but you'll own your house sooner. When you take a cash-out to refinance, your monthly payment often rises. Additionally, you could need to pay for private mortgage insurance (PMI) if your refinance leaves you with less than 20 percent equity in your home. A unique form of insurance called PMI covers your lender to a certain extent if you default on your loan. Ensure your lender discloses any PMI requirements since this could significantly increase your monthly payment. Ask your lender how your monthly payment will change if you refinance. Your lender should be able to review the specifics of your loan and give you an accurate estimate of your monthly payment. What are the refinancing costs? The amount you'll pay will depend on several circumstances, but on average, refinancing costs 2 percent to 6 percent of the mortgage balance. These could be the loan size, the type, the length of the refinance, credit rating, and whether you're taking advantage of the equity in your property. You take on a new mortgage when you refinance. This implies that you are responsible for paying the new loan's closing costs. You could have to pay the following closing charges when refinancing: Application fees for loans Origination fees for mortgages Cost of a home appraisal Title insurance Credit report fee Depending on the form of your new mortgage, you could need to pay additional costs. For instance, you will pay the VA funding charge, which ranges from 1.4 to 3.6 percent of the loan amount, if you are refinancing a VA loan. An upfront mortgage insurance cost is expected if you're refinancing an FHA loan. What are your available refinancing options? If you opt to refinance, finding the strategy that's best for you is essential. Compare different mortgage companies' refinance product offerings. Remember that one refinance option can be more appropriate for a specific circumstance than another, such as accessing your home equity. Determining your objectives is crucial before continuing with the refinancing procedure for this reason. Some of the most popular refinancing alternatives are shown below. Rate-and-term refinance Often known as a "standard refinance" by lenders, a rate-and-term refinance enables you to change the terms of your mortgage to ones that are more suited to your financial circumstances. With this refinance, you may get a lower interest rate, alter the length of your mortgage, and alter your monthly payments. A rate-and-term can be wise if you want to enjoy low mortgage rates or pay off your mortgage faster. Cash-Out Refinance Homeowners may convert their home equity into cash through a cash-out refinance. In cash-out refinancing, your current mortgage is replaced with a new one with a higher principal balance. Your home equity withdrawal and the remaining mortgage balance make up the new mortgage amount. When the cash-out refinance closes, your lender will send you the cash sum you want to withdraw from your home equity. Homeowners who require a lump sum of money to pay off debt, bolster a savings account, fund a home improvement project, and other uses may find a cash-out refinance a fantastic solution. Cash-In Refinance You can refinance to raise your home equity by adding additional money to your mortgage principal rather than using the equity you've built up over time as cash. This type of refinancing, known as a cash-in refinance, enables you to swap out your existing mortgage for a lesser one after making a single lump-sum payment. You can obtain better loan terms with a cash-in refinance, such as a lower interest rate and smaller monthly payments. Furthermore, it assists in lowering your mortgage burden.It's not always necessary to refinance. Suppose interest rates rise, and you want to keep your current mortgage conditions the same. In that case, your lender may allow you to undertake a mortgage recast, a lump-sum payment that re-amortizes your loan over the remaining term for a reduced payment. Several mortgage refinancing options might be more appropriate for your circumstances. These include a no-closing-cost refinance, a reverse mortgage, an FHA streamline refinance, and a VA streamline refinance. Before making a choice, evaluate lenders and refinance product kinds. Refinancing: Is it my best option? Assessing your financial status and goals is crucial before determining whether or not to refinance. Do you want to shorten the time it takes to pay off your mortgage? Do you wish to lower your monthly payments? Do you require a lump sum of cash to pay off debt or support a home improvement project? Knowing your objectives will help you choose the best refinance and prepare you for the new loan terms. You should also consider your qualification criteria, such as your credit score, DTI, and home equity. If you can only refinance if you fulfill the lender's requirements, you'll need to wait and try to improve these things. For instance, improving your credit score may enable you to lock in a lower interest rate. The bottom line Finally, you should ensure that refinancing makes financial sense. Compare your possible future savings with the costs of refinancing. A refinance might not be for you if it doesn't seem like you'll make money. Lyle Solomon has extensive legal experience, in-depth knowledge, and experience in consumer finance and writing. He has been a member of the California State Bar since 2003. He graduated from the University of the Pacific’s McGeorge School of Law in Sacramento, California, in 1998 and currently works for the Oak View Law Group in California as a principal attorney.
Guest Post by G. Brian Davis If you’ve ever thought about buying an investment property, your first question was probably “How do I finance it?” Investment property loans don’t work identically to home mortgages. The underwriting standards are tighter in most — but not all — ways, and they inevitably cost more. As you explore how to fund your first rental property or flip, keep the following differences in mind. Types of lenders Yes, you can borrow an investment property loan from traditional banks and mortgage lenders. But they’re slow, difficult to work with, and inflexible. Worst of all, most conventional loan programs only allow you to have up to four mortgages appearing on your credit report before they disqualify you. Even if you use traditional mortgage lenders for your first few rental properties, you can’t use them forever. Instead, many rental investors turn to portfolio lenders: lenders who keep their mortgages on their own books — their own portfolio — rather than selling them off like traditional lenders do. These lenders charge comparable interest rates and fees to traditional lenders, sometimes slightly higher. But, they offer far more flexibility, since they don’t need to fit you into a rigid loan program to sell off your loan. That means they can also settle much faster than traditional lenders. Of course, you may not be in the market for a long-term rental property mortgage. If you plan to flip a house, you need a hard money loan: a short-term, purchase-rehab loan in order to have money to buy the property and money to renovate it. Compare interest rates, fees, loan terms, and more for investment property loans before you commit to a lender, as they vary widely. Minimum credit requirements The government backs several mortgage programs designed to help first-time buyers with bad credit become homeowners. The most well-known example is FHA loans, which allow you to buy a home with a credit score as low as 500. Real estate investors don’t get the same subsidies on the backs of taxpayers. While there are a few portfolio lenders who allow credit scores as low as 620 or even 600, most require a minimum score of 660 or 680. If your credit score sits below 700, expect turbulence when shopping for an investment property loan. In the meantime, work on repairing your credit. Start by paying off debts, especially high-interest unsecured debts such as credit cards. Income requirements Traditional mortgage lenders look at your debt-to-income ratio to determine how much to lend you. Your home mortgage is a personal expense, and they need to make sure you don’t overstretch your budget. But rental properties aren’t an “expense” in the traditional sense. Instead, they should generate positive cash flow for you. So instead, portfolio lenders calculate what they call “debt service coverage ratio” or DSCR. Rather than looking at your income, they look at the ratio of the property’s loan expenses to its market rent. The DSCR formula looks like this: Annual Net Operating Income (NOI) / Annual Debt Service. For example, say a property produces $6,000 in net income annually, after vacancy rates, management fees, repairs, and so on. If the annual cost of the debt service is $4,000, then the DSCR is 1.5: $6,000 / $4,000 = 1.5. Most investment property lenders require a minimum DSCR of 1.25. Interest rate and fees As a general rule of thumb, expect the interest rates on investment property loans to cost 0.5–0.75 percent higher than homeowner mortgage rates. So, if you would pay 5 percent for a homeowner mortgage in today’s market, expect to pay 5.5–5.75 percent for an investment property mortgage. Portfolio loans can cost a little more, perhaps one percentage point higher than homeowner mortgages. Expect hard money loans to cost more. They typically cost at least two percentage points higher than homeowner mortgages, and often closer to four or five percent. Then there are the fees. Mortgage lenders charge percentage fees called points, plus flat fees (also known as “junk fees” within the industry). Investors should expect to pay at least two points on investment property loans, and hundreds of dollars in flat lender fees. These higher fees and interest rates combine for overall higher APRs on rental property loans than homeowner mortgages, borrower beware. Down payments Many homeowner loan programs allow low down payments, such as the 3.5 percent down payment on FHA loans, 3 percent down payment on some Fannie Mae and Freddie Mac loans, and the famous 0 percent down payment on VA loans for military service members. You won’t be so lucky as an investor. Expect to pay a minimum down payment of 15 percent, and usually 20–25 percent or even higher if you have weak credit. That’s the bad news. The good news: portfolio lenders and hard money lenders allow you to borrow the down payment, unlike conventional lenders. That means you can tap into home equity loans, HELOCs, credit cards, or your rich Aunt Susan to help you come up with a down payment. Final thoughts If you like the idea of investing in real estate but aren’t quite ready to buy a property, you have a few other options for investing. First, you can invest in real estate through crowdfunding platforms. Some allow you to invest with as little as $10. You can also buy shares in publicly traded real estate investment trusts (REITs). Some high-dividend REITs pay yields as high as 20 percent. Alternatively, you can invest in real estate syndications. They pay high returns, but come with high minimum investments unless you pool funds with friends, family, or an investing club. Lastly, if you like the idea of buying an investment property but worry you won’t earn enough yield in today’s market, you can always buy a vacation rental to list on Airbnb. As an added perk, you can use it in the off-season when vacancies are high. The bottom line: you don’t need to cough up a $50,000 down payment to start investing in real estate. Start with a strategy you’re comfortable with, and expand your real estate portfolio slowly from there. G. Brian Davis is a real estate investor and co-founder of SparkRental.com, which helps everyday people build passive income from rental properties on the side of their full-time jobs. Brian’s goal is simple: to help as many people as he can reach financial independence, so they can cover their living expense entirely with rental income. Connect with him through SparkRental at any time.
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