Refinancing Home Loans in the Current Economic Climate

Refinancing home loans in the current economic climate can save homeowners thousands of dollars, if it is done the right way. Refinancing can be a daunting task for many. Whether you are refinancing for the first time or tenth time, there are a few things to consider when refinancing your home loan.

Current Home Valuation

When you refinance, a lender will order an appraisal to determine the home's current market value. The appraisal tells the lender the value at which the home would sell in an open market, within a reasonable amount of exposure time.  The bank will then lend a certain percentage of that value. Usually banks lend up to 80 percent of the value. This is called the loan to value ratio, or LTV.  

In the current economic climate, many people are having trouble refinancing their home loans because their property value has dropped too far to be able to take out an 80 percent LTV. For example, if a home was purchased at $100,000 with an 80 percent loan, they have an outstanding balance of $80,000 USD. If that home has dropped in value to only $90,000 and that homeowner was seeking another 80 percent loan they would only qualify for $72,000 at 80 percent LTV. This means they have to bring the difference of $8,000 (80,000-72,000) to the closing table to refinance. For many borrowers, bringing in money to close a refinance is impossible.

FHA Insured Loans offer High LTV Options

The Federal Housing Administration (FHA) insures loans. These are great loan programs because they allow you to finance up to 96.5 percent of the home's value. For borrowers with high LTV loans, that need to refinance, the FHA insured program may be the only way they can get enough money to cover that loan amount.  

In most counties across the country, an FHA insured loan is limited to a maximum amount of $417,000. However, in some high cost areas the government has raised that limit to allow buyers to purchase higher priced homes. For example, areas like Los Angeles, New York, and Hawaii are allowed to borrower higher loan amounts.  

FHA insured loans are offered by most conventional lenders and there are both credit and income qualifications that must be met, which can be found through your local lender or through the FHA's main website. Again, using the example above, the home that dropped in value to $90,000 would allow a refinance of $86,850 using an FHA insured loan at 96.5 percent LTV.  This would successfully accomplish the $80,000 refinance you needed.

Interest Rate Matters

The interest rate you qualify for on your home loan refinance will largely determine the amount of your monthly payment. The higher the interest rate you have, the higher your monthly payment will be.

Equally important is LTV because the higher the LTV of a loan, the higher the interest rate will be. There is a trade-off there and banks know that higher LTV loans are more risky. If you plan to get a home loan at an LTV above 80 percent, know that your interest rate will be slightly higher.

There are many reasons to refinance a home. It could be to re-capitalize an ARM before it adjusts to a higher interest rate and higher payment, or it can be to get additional cash out of the home's equity. Whatever the reason is for your refinance, make sure you shop around for the best combination of interest rate and loan terms available to you in the current market.