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My Credit Rating has Improved, Should I Refinance?

General Finance Articles > Article: Should I Stay or Should I Go? How to Assess Whether You Should Refinance Your Loan

What does 'refinance' mean?

A refinance is the process of replacing an existing debt commitment (contractual agreement with a lender) with a new debt commitment. The new commitment will have different terms than the existing commitment. Refinancing a home mortgage is the most common type of refinancing available to consumers.

The benefits of refinancing a home mortgage include:

  • Debt consolidation
  • Lower interest rates
  • Access to additional funds for personal needs
  • A new loan that better fits the borrower's needs
  • Faster pay off of the loan
  • More favorable loan terms

Can lenders approve loan applicants if they have bad credit?

Yes, but they might not be approved for a traditional loan because they will not meet the requirements of the lender. This also applies to anyone with an existing mortgage that is attempting to refinance. Applicants with below average credit scores should consider a bad credit loan.

Bad credit loans are given to applicants who have been denied a traditional loan. These applicants are considered 'high risk' and because of their status, they will be required to pay higher interest rates than applicants who would be approved for a traditional loan.

Can I refinance because I have improved my credit rating?

Homeowners who have worked diligently to improve their credit scores might want to consider refinancing.

Why?

Refinancing is an intelligent way for homeowners to practice money management.
Borrowers who had lower credit ratings when taking out their first mortgage could benefit from refinancing if they increase their credit rating. Because they have worked on improving their credit rating, they might be able to refinance their mortgage for a lower interest rate. In turn, their monthly payments will be lowered.

Should I consider a debt consolidation loan?

Borrowers who have recently improved their credit score might have other credit card or personal loan debt they could consolidate into a new mortgage. Debt consolidation is the process in which a borrower takes out one loan to pay off many others.

The benefits of a debt consolidation loan include:

  • One monthly payment
  • A lower interest rate
  • A fixed interest rate

Consolidating debt allows the borrower to make one monthly payment as opposed to several each month. If the borrow is consolidating debt from credit cards, they might be able to secure a lower interest rate than they were previously paying. This saves the borrower money in the end.

 

What are the risks associated with refinancing?

Borrowers that have recently increased their credit rating could, potentially, do harm to their new rating if they refinance. When a borrower is applying for a new loan, they need to be knowledgeable of the process and make sure:

  • They have researched their loan options
  • The benefit of the refinance outlasts the short term (a refinance should never be viewed as a 'quick' fix)
  • The borrower can make the required monthly payments
  • Payments will not be increased
  • The borrower reads the paper work to ensure there are no hidden costs

The last thing you want to do is make a decision that will hurt your credit score again.

What type of loan should I choose?

In order to assess which loan is most advantageous, ask yourself these questions:

  1. Do I want to pay off the loan quickly or do I want to pay monthly and see out the term of my loan?
  2. How secure is my job? Am I at risk of being laid-off or let go?
  3. Would I rather know the exact amount I will need to repay monthly or is fluctuation okay?
  4. Can I stick to a budget?
  5. Are my plans for the future going to change my financial situation (i.e. children, schooling, etc)?

Once you have asked yourself these questions you can look into the different types of refinance loans. These answers will help you better understand your goal and, in turn, navigate through the various loan types.

There are many types of loans available to borrowers but because of your imperfect credit history, you must make sure you can qualify for them. Even with an increasing credit rating, a borrower might not qualify for a traditional loan because of their previously low credit rating. In this case, the borrower should consider a bad credit loan (as described previously).

Two other commonly used, traditional loans are:

  1. The fixed rate home loan
  2. The standard variable home loan

The fixed rate home loan is a great option for borrowers who are monitoring their spending habits. This loan is great for borrowers looking to:

  • Protect themselves from fluctuating interest rates
  • Consolidate debt
  • Combine two loans (one fixed rate and one variable rate) together

A standard variable home loan is a great option for borrowers who are looking for more flexibility in their loan. The positive attributes of this loan are:

  • Flexibility
  • Quick mortgage payoff for careful borrowers
  • No advanced payout penalties
  • Rates fall when the official Reserve Bank rates fall

Standard variable rates can be risky because the rates will rise with the Reserve Bank rates rise. This can lead to an inability to pay your debt on time and your credit score can take a hit. Because of this risk, we recommend anyone with an increasing credit score consider the fixed rate home loan over the standard variable rate.

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