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How to refinance an FHA loan
Apply for a new conventional or government-backed loan for a lower mortgage payment, better rate or longer term.
Like many homeowners, you may have purchased your first home with an FHA loan. If you’re ready to refinance, find out if you should go for another FHA loan, a conventional mortgage or do a cash-out refinance.
Can I refinance an FHA loan?
Probably. But how you refinance depends on your circumstances. Your three options are:
If you have an FHA loan, you may be able to refinance and convert it into a conventional mortgage. With a conventional refinance, you can shorten your loan term and potentially shed private mortgage insurance (PMI). You could even refinance from an adjustable-rate to a fixed-rate mortgage.
Many homeowners opt for a conventional refinance because there are no mortgage insurance premiums (MIP) if you’ve built 20% equity in your home.
Conventional refinance eligibility requirements:
- At least 3% home equity in most cases.
- Credit score of 620 or higher, though some lenders require 640 or higher.
- Proof of income with pay stubs, tax returns and W2s or 1099s.
- Ability to pay closing costs, including a home appraisal.
FHA Streamline refinance
If you’ve made at least six monthly payments and your loan-to-value ratio is at most 80%, you may be eligible for an FHA streamline refinance. Since the original home loan was FHA-insured, lenders may feel more comfortable refinancing the loan.
You can typically expect less paperwork, less scrutiny about your income and looser credit requirements than conventional loans. Depending on how long you’ve had the loan, you might also be able to skip the home appraisal. Streamline refinancing can lower your interest rate and monthly payment, but you’ll still need to make annual MIP payments.
FHA streamline refinance eligibility requirements
- Up-to-date mortgage payments.
- Must be at least six months since your mortgage was issued.
- Net Tangible Benefit. The FHA requires you to prove that you have a valid reason for refinancing — whether it’s to reduce your term, lower your mortgage rate or switch from an ARM to a fixed-rate mortgage to protect you from future rate hikes.
Has your property value increased since you purchased it? Do you need some extra cash for a large expense like a home renovation or to pay for college tuition? A cash-out refinance might suit you.
If you have at least 20% equity in your home based on a new appraisal, you can refinance your existing loan by taking out another mortgage for more than what you owe. Then, you can tap into your property’s equity and withdraw a lump sum.
You can choose a conventional or an FHA cash-out refinance.
|Conventional cash-out||FHA cash-out|
|Occupancy||Primary, second home, investment||Primary|
|Maximum loan-to-value (LTV) ratio||80%||80%|
|Minimum credit score||620, though lenders prefer 640||500, though lenders prefer 580|
|Maximum debt-to-income (DTI) ratio||45%, higher with six months reserves||43%, higher with compensating factors like a high credit score|
How to refinance an FHA loan
The refinancing process tends to take a few weeks, but varies depending on your lender and loan type. Expect to go through these steps:
- Determine your home equity. You can figure out your home equity by subtracting your mortgage balance from your home’s market value. This can help you identify what refinancing programs you may be eligible for.
- Compare your current loan with today’s interest rates. Then, do a breakeven analysis and figure out how much money you’ll save — or lose — by refinancing.
- Choose a loan type. When deciding between a conventional, FHA streamline or cash-out refi, think about the monthly payments and how long you’ll live in the home.
- Research qualified mortgage lenders. Make a shortlist of the best ones and ask for quotes.
- Decide on a lender. The FHA must approve the refinance, even if you’re moving to a non-FHA-insured lender.
- Apply for the new loan. Submit your application and supporting documents, such as pay stubs, tax returns, credit reports and asset statements. You could be asked to verify your identity with a copy of your Social Security card or provide employment documents.
- Close your existing loan. Pay off your FHA loan as soon as your new lender distributes the funds.
- Attend your closing. Double check the terms of your refinanced mortgage before paying the closing costs and signing the documents. Once you sign, you’re locked into the rate in the agreement unless — or until — you refinance again.
When should I refinance my FHA loan?
Refinancing might make financial sense if you:
- Want to take advantage of low interest rates. If your existing rate is higher than the market rate, it may be a good time to refinance.
- Have built up 20% equity in your home. Thanks to rising home values, you might have enough leverage to refinance into a conventional loan and get rid of the mortgage insurance premiums (MIP) required on FHA loans.
- Want to switch from an adjustable-rate (ARM) to a fixed-rate mortgage. By refinancing, you could lock in a lower interest rate before your lender hikes up the mortgage rate on your ARM.
- Can afford the closing costs. Often, closing costs can make or break a decision to refinance. Do the math. If you stand to save more in the long-term and you can comfortably cover the closing costs, refinancing may be worth it.
- Want to tap into your home equity. If you have at least 20% equity and a year of on-time payments, you may be eligible for a cash-out refinance.
How soon can I refinance my FHA loan?
To refinance to a conventional loan, you’ll need at least 3% equity in your home. For a cash-out refinance, 20% is the magic number. If you want to get rid of private mortgage insurance, you’ll have to wait until you build up 20% equity or more.
If it’s been at least 210 days since your last closing date, you can apply for an FHA streamline refinance. These are issued by private lenders and backed by mortgage insurance, so the process tends to be quicker. In most cases, you won’t need to verify your income, employment or credit, or get a home appraisal.
What should I watch out for?
Always read the fine print. Some obstacles you may come across are:
- Closing costs. At 2% to 5% of the home’s value, this is the most significant upfront expense. Let’s say you’re refinancing a $200,000 loan with 3% closing costs. You’ll need to bring $6,000 cash to the closing table.
- Private mortgage insurance. If you haven’t built up 20% or more equity in your home, you’ll still have to pay PMI when you refinance. PMI can run anywhere between 0.3% to 1.2% of the loan amount annually. This may override any savings you’re scoring with a new interest rate, so weigh the costs.
- No MIP refunds. The FHA won’t reimburse homeowners who refinance to a non-FHA-insured mortgage for their upfront mortgage insurance premium payments. If you refinance to another FHA loan, you may get a prorated refund.
- MIP. You can’t escape these payments with a streamline refi. They will be with you for the entire loan.
- Closing costs. You must be able to cover the closing costs — and you can’t roll the fees into the loan amount.
- Limits on cash out. You can’t take out more than $500 cash from the refinance.
- Owner-occupancy. For an FHA cash-out refinance, you must prove that you’ve occupied the property as your principal residence for the last 12 months.
Refinancing can help reduce your mortgage payments and interest rate. With FHA loans, you have three options for refinancing: conventional, FHA streamline and cash-out refinance.
Since refinancing fees vary, take the time to compare mortgage lenders.
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