Refinancing your mortgage can be a way to change your loan terms. If you refinance, you may be able to get a better interest rate or shorten the length of your loan, which can potentially save you money over time. With mortgage interest rates hovering around 4 percent, your savings from refinancing may be significant—especially if you took out a mortgage in the early-2000s, when interest rates for a 30-year fixed-rate mortgage averaged between 6 and 7 percent.
However, along with the benefits, keep in mind that a mortgage refinance could also impact your credit score.
“For nearly everyone who finances the purchase of a home, a mortgage is the single largest amount of money they will borrow in their lifetime,” says Bruce McClary, vice president of public relations at the National Foundation for Credit Counseling (NFCC). The scale of a mortgage commitment in comparison to other accounts means that it can have a larger impact on your credit score, he says.
Here are three things you should know about the refinancing process.
1. A refinance will appear on your credit report as a new loan.
When you refinance your mortgage, you’re essentially paying off the old loan in full and opening a new loan. Because your credit score reflects both how long different accounts have been established and also the most recent activity on an account, refinancing—and closing an older account—can have an impact on it.
The length of your credit history makes up 5 to 7 percent of your credit score, and older accounts show your ability to make payments consistently.
2. Multiple credit inquiries could impact your credit report.
You may want to shop around with several different lenders to find the best loan terms when you are refinancing. However, remember that when a potential lender with whom you’ve applied for a loan reviews your credit history, it results in a “hard inquiry” on your credit report. Hard inquiries remain on your credit report for 24 months and can have an impact on your credit score, depending on your credit history and borrowing habits. New credit accounts for 10 to 12 percent of your credit score.
To help minimize the number of hard inquiries on your credit report, start by researching lenders and rates online and then make a list of the ones with which you will apply.
Before you start shopping, it may be worth your time to pull a copy of your credit report to get a sense of how you’ll look to new lenders. You are entitled to one free credit report annually from each of the three credit reporting agencies (CRAs) through AnnualCreditReport.com. Review all the information on your credit report for accuracy before you begin applying for a refinance.
3. Skipping mortgage payments during the refinance process could damage your credit score.
Refinancing your mortgage may take longer than you expect, so don’t count on it closing by a certain month. Some borrowers have gotten into trouble by skipping a mortgage payment when they (incorrectly) assumed their refinance would go through. A missed or late payment could impact your credit score.
“The best way to avoid this is to stay in constant communication with the lender to confirm the payment schedule, and set reminders for yourself to avoid missing important due dates,” says McClary.
Instead, make your regular mortgage payments as usual until your refinance is closed. Payment history accounts for 35 percent of your credit score, and missed payments will remain on your credit report for seven years and 180 days from the date of first delinquency.
Even after your refinance is complete, it may take several months for it to appear on your credit report, McClary says. If it doesn’t appear, make sure your lender is reporting your payments to the CRAs.
Refinancing may have some impact on your credit score, but how you handle the new loan will be more important in the long term.