Can refinancing your mortgage negatively impact your credit score?
Refinancing your mortgage or applying for new credit can influence your credit score, but the effect is typically short-lived. Many homeowners choose to refinance to reduce their monthly payments and create more financial flexibility, even if it means a temporary dip in their credit. Continue reading to learn how mortgage refinancing may impact your credit and discover ways to safeguard your financial standing.
What is refinancing?
Refinancing involves securing a new loan to replace and repay an existing one. For example, if you owe $100,000 on a $200,000 mortgage, you can take out a new loan to pay off the existing balance. You then start making payments on the new loan. There are several factors that may lead you to consider refinancing your mortgage, such as: Getting a lower interest rate if your credit score or the market has improved since taking out the last loan
Changing the terms of your current loan to reduce monthly payments Being approved for more than what you owe to cash out the difference and cover a large expense Having good credit is very helpful for getting approved for a new loan. You should also consider factors such as how much you’ll owe in closing costs and how refinancing can affect your credit, especially if this isn’t your first time. Frequent refinancing of your mortgage can have both positive and negative effects.
Can refinancing a mortgage hurt my credit?
Refinancing your mortgage can impact your credit in several ways. While refinancing has the potential to enhance your financial circumstances, it’s important to weigh the following factors before finalizing your decision.
Credit checks
When a lender reviews your credit report, it results in a hard inquiry, which may cause a temporary dip in your credit score. The harder inquiries you accrue within a span of several weeks or months, the worse it usually is for your credit.
Accumulating too many inquiries can make you seem like a desperate borrower, which is a red flag for many lenders. Hard inquiries can remain on your credit report for about two years, but they typically only impact your score for up to 12 months.
Closing a loan account
Refinancing your current mortgage pays off the original loan, closing that account and eventually removing it from your credit report. While this may seem harmless, one of the factors that determines your overall credit score is length of credit history.
Your credit history length is calculated based on how long your accounts have been established. This includes the age of your oldest account, the age of your newest account and the average age of all open accounts combined. Length of credit history accounts for 15 percent of your FICO® score, if your current mortgage has a lengthy history, refinancing it could temporarily hurt your credit.
Multiple loan applications
Some people apply to several lenders when refinancing to find the best loan terms and lowest interest rates. Every time you submit an application, the lender checks your credit report, triggering a hard inquiry against your account. To keep these hard inquiries from hurting your score, submit all loan applications within a short time frame.
Credit scoring models understand that many consumers rate shops when seeking loans and often group certain inquiries occurring within a period of 14 – 45 days as one event. This can minimize damage to your credit as long as the inquiries are for the same type of loan.
Tips for safeguarding your credit during the mortgage refinancing process
If refinancing your mortgage proves to be the most beneficial option for your finances, you will need to close your current account before opening a new one. However, there are steps you can take to minimize the impact on your credit.
Check your score beforehand
Review your credit score prior to beginning the refinancing process. Your score heavily influences whether a lender will approve you for a loan and what interest rate you’ll receive. According to FICO, a good credit score falls between 670 and 739. Mortgage lenders typically look for a score of 620 or higher before approving a loan, but a score of 760 or higher can help you qualify for the best interest rates.
If your score is lower than 620, you may want to wait until it improves before refinancing. Even if you aren’t approved for the loan, the lender evaluation still counts as a hard inquiry, and you would risk decreasing an already low credit score. This could affect your ability to access other types of credit.
Also, assess your credit score following refinancing to gauge any impact and monitor your recovery over time. If your score is lower than expected or you notice any unfamiliar inquiries, consider seeking credit repair.
Weigh the pros and cons
Refinancing often temporarily hurts your credit, and it’s usually not enough of a difference to cause long-lasting or serious credit damage. However, refinancing may not be worth it if it doesn’t actually save you money. Use a mortgage calculator to test potential refinancing rates and see how they affect your monthly payment. If refinancing offers significant financial advantages, proceeding with it could be the optimal choice for your circumstances.
Additionally, determine how much you expect to pay in closing costs or other fees. Refinancing may not be the best move if you end up paying more in closing costs than you expect to save by opening a new loan.
Keep up with monthly payments
Your payment history is the most influential factor on your credit report, making up 35% of your overall FICO score. Submitting applications for new mortgage loans doesn’t mean you can stop paying your existing loan. Keep making monthly payments until the old account is officially paid off with the new loan and closed.
Failing to make a payment or paying late can lower your score and cause future lenders to view you as unreliable. Some individuals halt payments on their current loan while refinancing is in progress, fearing they might overpay or waste money. However, lenders are required to refund the difference if the amount they receive is larger than what you owe on an existing loan.
After your mortgage is fully transitioned to the new loan, keep making timely payments to restore your credit to its pre-refinancing status. Consistently paying bills in full and by their due dates is the most effective way to alleviate credit damage.
Avoid making other changes to your credit
During the refinancing process, refrain from making other changes to your credit to prevent further damage to your score. For example, don’t open a new credit card or refinance a vehicle at the same time you’re shopping around for new mortgage loans. Even if all these actions occur within a short period of time, credit scoring models will count them as separate inquiries because they’re different types of credit.
If you’re thinking about refinancing your mortgage, it’s best to do so when you haven’t recently applied for other types of credit and have no immediate plans for additional financial changes. This prevents too many inquiries from hitting your credit report simultaneously, minimizing the impact on your credit health.
How much time does it take to see an improvement in your credit after refinancing your mortgage?
Refinancing your mortgage may cause a small, temporary drop in your credit score. How long it takes to improve your credit score depends on your payment history for the new loan and whether you gain more hard inquiries from other types of credit after opening a new mortgage.
If you consistently make on-time payments and refrain from making additional changes to your credit, your credit should improve in a few months. However, if you struggle to make payments, accrue other debts or notice unexpected activity on your credit report, credit repair could help get your finances back on track. Cent savvy can address inaccurate or negative items on your report to determine the best way to rebuild your credit. Begin with a complimentary credit evaluation today.
For more information, please visit Cent Savvy Credit Repair Counseling