What is refinance?
Refinance is the process of replacing the existing debt obligation with another debt obligation under certain terms and conditions. The terms and conditions of refinancing can be varied under different factors. The new loan has better terms and conditions, which improves the borrower finances. The terms and conditions of refinancing basically depend on the type of the loan and the lenders. But the basic process of refinancing is
- Borrower has an existing loan, which the borrower wants to make improvement in some way.
- Borrower finds out a lender with better loan terms than existing loan terms. Then the borrower applies for the new loan.
- With the new loan amount the borrower pays off the existing debt completely.
- Borrower makes the payments of the new loan until the borrower pays it off or refinance.
The reasons for loan refinancing:
- To reduce the monthly payments or to get the advantage of a better interest rate.
- To consolidate the existing debts into one loan.
- To reduce the monthly repayments.
- To reduce the risk regarding the payments of the loan.
- To free up the cash by paying off the existing loan.
Disadvantages of refinancing:
Transaction cost: the refinancing can be expensive. The borrower has to pay the closing cost of the loan and it also includes processing and originating fees.
Higher interest cost: when the borrower stretch out the payments for the longer period of time with lowers monthly payments. The borrower end ups paying more interest on the debt.
Lost benefits: Though some loans have a lot of benefits when the borrower refinance those benefits can be discarded.
What doesn’t change in refinancing?
Debt: The loan amount remains the same unless the borrower takes extra debt while refinancing. It is possible to change the debt by cash-out refinancing or roll the closing cost into loan but it increases the debt burden.
Collateral: If the borrower took the loan on collateral bases then that will probably remain the same. The collateral can be at risk when it is refinanced.
Payments: The borrower still has to make scheduled monthly payments. The monthly payments will change when the borrower refinance based on the new loan terms and conditions.
The components included in the refinance calculator:
The original amount of current loan: The total amount borrowed on the current loan.
Loan term of current loan: The total time period or term of the current loan. Basically, loan terms are 15years and 30 years.
Interest rate of current loan: The interest rate that the borrower paying monthly on the current loan.
Time remaining: The remaining time to pay off the mortgage loan.
New loan term: The total time period or term of the new loan.
Interest rate of new loan: The new interest rate the borrower has to pay based on the loan borrowed.
Points: The upfront payment percentage.
Cash out amount: The amount that is beyond the cost of the transaction, pay off of existing debt and expenses.
Costs: The cost of paying all fees to close the existing loan and refinancing the new loan.