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- A rate-and-term refinance replaces your original mortgage with a new one.
- Your interest rate, monthly payments, and term length will change.
- You’ll need a certain credit score, debt-to-income ratio, and amount in equity to qualify.
- See Insider’s picks for the best mortgage refinance lenders »
What is a rate-and-term refinance?
With a rate-and-term refinance, you exchange your current mortgage for a new one with different terms. You’ll get a new interest rate and term length, hence the name “rate-and-term.”
Your monthly payment amount will also change, because a) you’re paying a different amount toward interest each month, and b) refinancing into a longer or shorter term will affect how much you pay monthly.
You may hear a rate-and-term refinance referred to as a “no-cash-out refinance.” You can’t use a rate-and-term refinance to tap into your home equity and receive cash — that would require a cash-out refinance.
Who is eligible?
Not everyone qualifies for a regular rate-and-term refinance. You’ll need to meet the following criteria:
- Home equity. Many lenders want you to have at least 20% equity in your home.
- Credit score. The minimum credit score will depend on which type of mortgage you are refinancing. A conventional mortgage requires at least a 620 score.
- Debt-to-income ratio. The DTI ratio you’ll need also depends on which type of mortgage you have. Most lenders will be happy if your ratio is 36% or lower.
There’s some flexibility with these requirements. For example, a lender may approve you to refinance with a higher DTI ratio if you have an excellent credit score or more than 20% equity.
Should you get a rate-and-term refinance?
Alternative types of mortgage refinancing
With a cash-out refinance, you’ll still replace your old mortgage with a new one that has different terms. But you’ll actually take out a loan larger than what you have left to pay on the home so you can receive the surplus in cash.
A cash-out refinance can be a good option if you’ve built equity in your home. Most lenders won’t let you receive more than 80% of your home’s value in cash, so you’ll keep at least 20% equity in the home.
Conventional, FHA, and VA mortgages are eligible, but there’s no cash-out option for USDA mortgage refinancing. You can refinance from a USDA mortgage into a conventional mortgage to receive cash, though.
A streamline refinance lets you refinance without going through the appraisal process. This saves you time and money, and it’s useful if your home has lost value. An appraisal would show that your home value has gone down, and it could hurt your chances of being approved or land you a worse rate.
In many cases, you don’t need to show your credit score or debt-to-income ratio. So a streamline refinance is also good if your finances aren’t as strong as you’d like.
FMERR or HIRO program
Maybe you have a conventional mortgage, but you don’t have enough equity to qualify for a regular rate-and-term refinance. That’s where the Freddie Mac Enhanced Relief Refinance (FMERR) and Fannie Mae High LTV Refinance Option (HIRO) programs come in.
Both of these programs let you refinance if you have less than 3% equity in your home. You can even qualify if you’re underwater on your mortgage, meaning you owe more than your home is worth.
You can use the FMERR program if your original mortgage is backed by government-sponsored mortgage company Freddie Mac, and HIRO if it’s backed by Fannie Mae.
Maybe you aren’t prepared to pay thousands in closing costs when you refinance. A no-closing-cost refinance still lets you refinance into a new term with a new rate, just like a rate-and-term refinance. But you won’t pay a lump sum at closing.
You may not have to pay closing costs upfront, but you’ll still pay the money over time. The lender just finds a different way to charge you. There are two main ways you could end up paying closing costs: Roll the costs into your mortgage, or pay a higher interest rate.
A rate-and-term refinance is a great tool for refinancing if you’re eligible. But if you don’t qualify, you still have plenty of other options.
Laura Grace Tarpley is the associate editor of banking and mortgages at Personal Finance Insider, covering mortgages, refinancing, bank accounts, and bank reviews. She is also a Certified Educator in Personal Finance (CEPF). Over her four years of covering personal finance, she has written extensively about ways to save, invest, and navigate loans.
Related Content Module: More on Refinancing a Mortgage
Originally published at https://www.businessinsider.com/personal-finance/rate-and-term-refinance on .