Refinancing your mortgage replaces your current loan with a new one — ideally at a lower interest rate, shorter term, or better terms. When done right, refinancing can save you hundreds of dollars per month and tens of thousands of dollars over the life of your loan.
This guide explains how refinancing works, when it makes sense, and how to get the best rate.
What Is a Mortgage Refinance?
When you refinance, you apply for a new mortgage that pays off your existing one. Your new loan may have a different interest rate, term length, or loan amount. The most common reason people refinance is to get a lower interest rate, which reduces their monthly payment and total interest paid.
When Does Refinancing Make Sense?
The 1% Rule
A refinance is generally worth it if you can reduce your interest rate by at least 1 percentage point. For larger loan amounts, even 0.5% can justify the closing costs.
The Break-Even Point
Refinancing has closing costs — typically 2% to 5% of the loan amount. Divide your closing costs by your monthly savings to find your break-even point.
Example: $6,000 in closing costs and $200 per month in savings = 30 months to break even. If you plan to stay in the home more than 30 months, the refinance makes financial sense.
Good Reasons to Refinance
- Lower your interest rate and monthly payment
- Switch from an adjustable-rate mortgage (ARM) to a fixed rate for stability
- Shorten your loan term from 30 years to 15 years and pay less total interest
- Tap home equity through a cash-out refinance (for home improvements, debt consolidation)
- Remove private mortgage insurance (PMI) once you have 20% equity
Step-by-Step: How to Refinance
Step 1: Check Your Credit Score
Your credit score determines the rate you qualify for. Get a free credit report at AnnualCreditReport.com. If your score is below 620, work on improving it before applying. Scores above 740 typically qualify for the best rates.
Step 2: Know Your Home’s Value
Lenders will order a formal appraisal, but get a rough idea of your home’s current value first. Use Zillow, Redfin, or ask a local real estate agent for a comparative market analysis. You generally need at least 20% equity to avoid PMI on a conventional refinance.
Step 3: Calculate Your Break-Even Point
Estimate your new monthly payment and the closing costs. Calculate how many months it takes to recover the closing costs through monthly savings. If you plan to sell or move before that date, the refinance may not make sense.
Step 4: Compare Lenders
Get quotes from at least three lenders — your current lender, a large bank or credit union, and an online lender. Each quote is a Loan Estimate document that shows your interest rate, APR, monthly payment, and closing costs. Compare the APR (annual percentage rate), not just the interest rate, because APR includes fees.
Mortgage rate shopping does not significantly hurt your credit score. Multiple mortgage inquiries within a 14 to 45-day window count as one inquiry.
Step 5: Lock Your Rate
Once you choose a lender, lock your interest rate. Rate locks typically last 30 to 60 days. Locking prevents your rate from increasing if rates rise while your application is processed.
Step 6: Complete the Application
You will need:
- Two years of W-2s and tax returns
- Recent pay stubs (last 30 days)
- Two to three months of bank statements
- Current mortgage statement
- Homeowner’s insurance information
Step 7: Attend Closing
Closing on a refinance works similarly to your original purchase closing. You sign documents and pay closing costs. Some lenders allow no-closing-cost refinances — they roll the costs into your loan balance or charge a slightly higher rate instead.
Types of Refinances
- Rate-and-term refinance: Changes your interest rate or loan term without taking cash out. Most common type.
- Cash-out refinance: Borrow more than you owe and receive the difference in cash. Useful for home improvements or debt consolidation, but increases your loan balance.
- Streamline refinance: Simplified process for FHA, VA, and USDA loans. Less documentation required, sometimes no appraisal needed.
Bottom Line
Refinancing makes sense when the savings outweigh the costs and you plan to stay in the home long enough to break even. Start by checking your credit score, estimating your home’s value, and comparing at least three lender quotes. The process takes 30 to 60 days and can save you a significant amount over the life of your loan.