Refinancing a mortgage may be a good decision for a lot of reasons. Interest rates fall, and people tend to get better terms once they have owned a home for a few years. Most homeowners need to renew or refinance the loan after the initial term ends, which calls for a few decisions. The right choice depends on several factors, and it may not be obvious from the renewal notice. Here's what homeowners need to know about the refinancing process, including some options they will need to consider.
1. Renewal vs. Refinancing
Renewal is not the same as refinancing, and homeowners should keep this in mind. Renewing is a virtually automatic process that happens at the end of the current loan's initial term. This term lasts anywhere from 6 months to 10 years. The lender of the existing mortgage is required to send out a renewal notice with proposed terms within three weeks of the renewal date. Homeowners who are happy with those terms can agree to the renewal and continue to the second term of the loan.
People who want to negotiate better rates or just see what else is available may want to refinance with a different lender. Refinancing has different rules than a renewal. The refinancing process is much closer to applying for a new mortgage, since in many ways, that is the case. Refinancing usually includes a series of fees to be paid at closing that relate to the new lender's costs to process the application and opening the loan.
2. Early Renewal
The timing for renewal or refinancing matters as people consider their options. Some loans feature prepayment penalties that force homeowners to pay extra fees if they choose to refinance with a different lender before the renewal period arrives. In some cases, lenders offer the option to renew early. This means that a homeowner might be able to secure a lower interest rate if they agree to renew the loan a few months in advance, with the same lender. It is important for homeowners to look at the rules for their mortgages to determine which options may be the best. In some cases, paying a prepayment penalty may be a fair exchange for negotiating a lower interest rate or better terms for the second part of the loan.
3. Shopping Around vs. Requesting Better Terms
A lot of the time, the current lender offers the same terms for the rest of the loan as the first. In some cases, this could be a great benefit to homeowners. In others, they lose out by not shopping around or asking for better terms. Lenders often count on homeowners not wanting to invest the time and energy to apply for a new loan. As a result, borrowers end up with a higher interest rate or an unfavourable payment, when they might have qualified for something better. Shopping around does not necessarily obligate people to refinance. Finding out current interest rates and what they might qualify to receive may allow them to negotiate a better situation with their existing lender.
4. When to Consider Refinancing
Although many homeowners ultimately choose to stick with their current lender, there are certain situations in which people should seriously consider looking elsewhere. These may include:
- needing to change the type of loan
- ability to make higher payments on a shorter term than the initial loan
- intention to take out home equity for home improvements or debt consolidation
Homeowners should remember that renewal is automatic, and does not necessarily require their acceptance to continue. This means that if they do not refinance the loan or renegotiate the details of the renewal by a set date, the renewal may happen anyway.
5. Mortgage Stress Test
A relatively new feature of Canadian mortgages is the mortgage stress test. People who bought a home even a few years ago may not be familiar with this concept. Homeowners who want to renew their mortgages likely will not need to go through the stress test. However, those who are looking to refinance with a bank may be required to do so.
The mortgage stress test tries to ensure that people are getting a loan they can support even if their financial situation changes. The process includes running the homeowner's income and debts with a mortgage at the five-year mortgage rate for the Bank of Canada, or 2 percent on top of the offered interest rate. People who will pay mortgage insurance on the loan may not need to meet the terms of the stress test.
Deciding between renewal and refinancing is something that most Cougar Ridge homeowners will have to do in the first several years of owning a property. There are benefits and disadvantages for taking each route. In some cases, refinancing is the best option. By carefully looking at their prospects with current and potential lenders, homeowners can make the most practical choice.