Spare a thought for mortgage refinancing, as homeowners won’t likely see it reappear as a viable option anytime soon.
Cash-out refinancing was an extremely popular way to tap home equity in the 2010s. Average rates for 30-year fixed mortgages declined steadily throughout the decade, allowing homeowners to refinance once, twice or several times. By 2018, more mortgage refinances were of the “cash-out” variety than were traditional rate-and-term refinances, according to data from mortgage guarantor Freddie Mac.
With current mortgage rates averaging around 6.75% in mid-2023, however, refinancing a mortgage for a larger one is a non-starter for most homeowners today. That’s because (as most don’t need reminding) mortgage borrowers are paying much lower rates than the current national average, and wouldn’t benefit from a refinance today—even if it did result in extra cash once closed.
But when might homeowners begin to consider refinancing?
In the Before Times, the rule of thumb for mortgage refinancing was that refinancing a mortgage might make sense when the new loan’s rate would be at least 1 percentage point lower than the owner’s current mortgage rate. Even then, homeowners would need to consider closing costs as well as perhaps resetting the clock on another 360 months of mortgage payments if they opted for another 30-year mortgage.
If you query mortgage industry experts about where today’s mortgage rates are headed, you’ll probably be met either with evasiveness (granted, mortgage rates are difficult to forecast) or the sentiment that we’re likely to remain at these 6% to 7% levels for the immediate future.
Majority of Mortgage Debt Has Sub-3% Interest Rate
Current rates are not low enough for refinancing—cash-out or otherwise—to benefit most current homeowners, as more than half of mortgage holders currently have a rate of 4% or lower, according to mortgage backer Freddie Mac. Indeed, a cash-out refinance may never again be in the cards for most of these homeowners. Even cautious market observers are willing to state that a 3% or 4% rate on fixed-rate mortgage rate won’t make a return for years, if ever.
Enter Home Equity
While current homeowners are certainly disadvantaged where cash-out refinances are concerned, they could still come out ahead if they took out a home equity loan or a home equity line of credit (HELOC). Even if the homeowner accepts a loan or line of credit at a higher interest rate than they would get from a mortgage refinance, they can still end up paying less interest overall. That’s something that could benefit homeowners who have a lot of equity on a low-rate mortgage, according to a study conducted by the Center for Responsible Lending and American Enterprise Institute.
Millions of U.S. homeowners with mortgages have close to $16 trillion in home equity, and more than $10 trillion of that is considered tappable, according to Black Knight, a mortgage market observer. Tappable equity, in other words, is the percentage of a home’s value that can be borrowed against, as a home equity loan or a HELOC, alongside an existing mortgage.
Waiting for the Dough
Despite the abundance of tappable income, home equity loans and HELOCs remain largely dormant. And there may be some good reason for hesitation among homeowners: Because a home serves as collateral on home equity loans and HELOCs, not being able to repay either those or the primary mortgage could result in mortgage delinquency and ultimately foreclosure.
Banks and lenders also aren’t yet too keen on making home equity or HELOC loans. Unlike primary mortgages, which banks can package and sell to mortgage guarantors Freddie Mac and Fannie Mae, HELOCs remain largely on the banks’ own books. If a bank were to foreclose on a home, it would have to manage the property until it resells—something lenders had more than their fill of after the housing crash in the late aughts.
Nevertheless, Experian data shows that HELOCs, slowly but surely, are gaining in popularity after years of decline.
Number of HELOCs Outstanding
There are still good reasons for homeowners to use their equity to manage household finances, such as competitive rates versus personal loans. And home equity loans are tax-advantaged if used to improve the home it’s borrowed against. Debt consolidation is also a popular use of funds received from a HELOC, of course due to the lower APR of HELOCs versus most variable-rate credit cards.
Although a homeowner’s credit score and debt-to-income ratio may still sway a lender’s decision of whether or not to extend a HELOC or home equity loan, typically lenders aren’t as stringent about credit scores if the homeowner has significant equity.
Getting your near-term finances in order would benefit a HELOC application as much as it would when applying for other types of credit. If you’re considering a HELOC in the coming months, try to refrain from increasing your debt-to-income ratio, keep current loan payments on track and on time and make sure you have as much equity as you estimate—home prices have declined in some regions of the U.S. in 2023.
The post When Will Mortgage Refinancing Return? appeared first on Experian’s Official Credit Advice Blog.
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