Refinancing your home loan offers many benefits. It can save you a ton of money in interest, for you can get mortgage rate much lower than what you have, especially when your credit score has improved significantly since the date you signed off your current loan.
A mortgage refinance also lets you switch from a 30-year term to a 15-year one, and vice versa. Or, you replace your variable-rate loan with a fixed one.
Furthermore, a refinance in Seattle, Salt Lake City, Dallas, or Los Angeles allows you to tap the equity you built on your property for whatever you see fit.
Although your heart is in the right place, refinancing your home loan can harm your credit health over the long term. In a nutshell, below are the three main ways a mortgage refinance can pull your credit score down in the foreseeable future.
Getting Your Credit Report Pulled by a Lender
Rate shopping can leave a credit score ding when you do it incorrectly. You can compare products online without hurting your credit, but the same can’t be said when you begin talking to several mortgage lenders to apply for a loan refinance.
A formal mortgage refinance application triggers a hard pull, a kind of inquiry that knocks a few points off your credit score, to assess your risk as a borrower. Generally, hard inquiries account for 10% of your creditworthiness, so it is imperative not to seek credit too much.
Fortunately, several multiple hard pulls are not as damaging when done over a short period. Credit scoring systems are different, but it is ideal to carry out your applications between 14 and 45 days to ensure that all of the inquiries are treated as one.
Moreover, only inquiries done over the past 12 months are used to calculate your credit score. After 24 months, they completely disappear from your credit reports.
Closing Your Old Account
Refinancing is all about replacing your old mortgage with a new one. Although it offers a fresh start, this change can negatively affect your borrowing credentials because it lowers the average age of your credit accounts. Age of credit typically determines 15% of your credit score.
The implications do not end there. Once your old loan is paid off, the payment history of your old account begins to fall off your credit report. While it can take 10 years before all of the data related to your current mortgage goes away for good, you can make up for the information you lose as you repay your new loan.
Increasing Your Loan Balance
Taking out a cash-out refinance increases your credit utilization, a fancy term of your level of indebtedness, which represents 30% of your credit score. You might see your credit score drop a lot at first, but it should improve over time as long as you make your payments on time and in full.
Pay attention to the negatives of a mortgage refinance as much as its positives. Make sure your credit reports are free of errors and your credit score is as high as it can be before talking to a lender to qualify for the most favorable deal available.