What is mortgage refinancing and how does it work?

Mortgage refinancing is the process of replacing your current home loan with a new one, typically to secure a lower interest rate, change the loan term, or access home equity. When you refinance, your new lender pays off the existing mortgage, and you start making payments on the refinanced loan instead. Refinancing involves a full loan application, similar to the original purchase process.

How does mortgage refinancing work?

Although mortgage refinancing might seem complicated, the path is actually a familiar one. In many ways, you’ve been here before. The application and approval steps are very similar to what you navigated when you first bought your home.

Qualifying for a refinance

Once you’ve shopped around for rates and chosen a preferred lender, you’ll fill out an application. Lenders will review your credit score, income and employment history, and debt-to-income (DTI) ratio. Your home’s current value is also assessed, often through an appraisal.

The replacement process

When you refinance, your new lender pays off your old mortgage in full. After that, you begin making payments on the new loan, under the updated terms, to the new lender.

The break-even point

Because refinancing comes with upfront costs, it’s important to calculate your break-even point, which is the moment when your monthly savings exceed the closing costs you paid to refinance.

For example, if refinancing lowers your payment by $200 a month, and your closing costs total $4,000, your break-even point would be about 20 months later. If you plan to move or sell before reaching that point, refinancing may not make financial sense.

Common types of mortgage refinances

There are several types of refinancing. The right choice depends on your financial goal.

Rate-and-term refinance

A rate-and-term refinance is the most common type. It allows you to change your interest rate, your loan term, or both, without borrowing additional money.

For example, you might:

• Lower your interest rate to reduce monthly payments
• Switch from a 30-year loan to a 15-year loan, which may increase your monthly payment but could lead to significant savings on interest
• Move from an adjustable-rate mortgage (ARM) to a fixed-rate mortgage to stabilize your payments

Cash-out refinance

A cash-out refinance lets you swap your current mortgage for a bigger one by tapping into your home’s equity — the portion of the house you actually own. The new loan will cover your old mortgage balance plus an additional amount, which you’ll receive in cash.

Homeowners often use cash-out funds for:

• Home improvements or renovations
• Debt consolidation
• Major expenses, such as tuition or medical bills

Keep in mind that increasing your loan balance may raise your monthly payments or extend your repayment timeline.

Cash-in refinance

With this type of refinance, you bring money to the closing and apply it toward the principal of the new loan balance, which lowers the total amount you need to borrow.

The benefits include:

• Lowering your loan-to-value (LTV) ratio
• Helping you to qualify for a better interest rate
• Removing private mortgage insurance (PMI) if you have 20% equity

This strategy may make sense for homeowners who want to own more of their home outright and save on interest over the life of the mortgage.

Streamline refinance (FHA/VA) 

If you have a government-backed loan — like a Federal Housing Administration (FHA) loan or Department of Veterans Affairs (VA) loan — you might be eligible for a simplified refinance process. The FHA Streamline Refinance and the VA Interest Rate Reduction Refinance Loan (IRRRL) programs typically require less paperwork and sometimes eliminate the need for an appraisal, making it faster and easier to lower your monthly mortgage payment.

When should you refinance your mortgage?

Timing matters for refinancing. It might be worth considering refinancing your mortgage if:

• Interest rates have dropped: If current rates are roughly 0.75% to 1% lower than your existing rate, refinancing may reduce your monthly payments enough to offset closing costs.
• Your credit has improved: A stronger credit score can help you qualify for better rates and terms.
• You want more stability: Switching from an adjustable to a fixed-rate mortgage can provide more predictable monthly payments.
• You’ve reached at least 20% equity: If your home’s value has increased or you’ve paid down your balance, refinancing could allow you to remove private mortgage insurance. 
• You want to shorten your loan term: Moving from a 30-year loan to a 15-year loan may increase monthly payments but significantly reduce the total interest paid.

The step-by-step refinance process

1. Define your goal

Be clear why you want to take this step. Are you trying to lower your monthly payments, shorten your loan term, or access home equity? Your objective will guide the type of loan you choose.

2. Shop lenders

Request loan estimates from at least three lenders, so you can evaluate interest rates, closing costs, and loan terms side by side. 

3. Apply and lock your rate

Once you choose a lender, you’ll submit an application. If approved, you may be able to lock in your interest rate for a set period, typically 30 to 60 days. A rate lock protects you from market fluctuations while your loan is being processed.

4. Underwriting and appraisal

During underwriting, the lender verifies your data, including income, assets, and debts. In most cases, the home will be appraised to confirm its market value. 

5. Closing

At the closing, you’ll sign the new loan documents and pay any closing costs. At that point, your new lender pays off your old mortgage.

6. The right of rescission

Federal law gives you a three-business-day window to cancel the transaction after closing. This “right of rescission” allows you to reconsider before the loan is finalized.

How much does it cost to refinance your mortgage?

In general, closing costs for mortgage refinancing range from 2% to 5% of the new loan amount. On a $300,000 loan, for example, that would likely mean $6,000 to $15,000 in fees.

Here are some of the most common refinance costs:

A note on "no-closing-cost" refinance

Some lenders advertise “no-closing-cost” refinancing. Usually, this means you will either pay a slightly higher interest rate or will roll the closing costs into your loan balance. This can reduce upfront costs, but it could increase the total amount you pay over time. 

Pros and cons of refinancing

Refinancing can be a powerful financial tool, but it’s not the right move for every homeowner. Weighing the potential benefits against the costs can help you decide whether it makes sense for your situation. 

Pros

• Lower monthly payments: Securing a lower interest rate or extending the loan term may reduce the amount you pay each month.
• Reduced total interest paid: If you refinance for a shorter term or a lower rate, you may pay less over the life of the loan.
• Debt consolidation opportunities: A cash-out refinance allows you to pay off other costs, such as high-interest credit cards, lowering your overall borrowing costs.

Cons

• Upfront closing costs: It may take time to financially recover from upfront costs.
• Restarting the loan term: Refinancing into a new 30-year mortgage, for example, can reset your payment schedule, meaning you pay interest for a longer period. 
• Higher total interest: While lowering your payment by stretching out your loan term can make monthly payments easier, it can increase your total interest payments over time. 

Frequently asked questions

How soon can I refinance after buying a home? 

You may be able to refinance shortly after closing. For a standard rate-and-term refinance, some lenders allow it as soon as you qualify. Cash-out refinances usually have a “seasoning” requirement, meaning you must wait at least six months from your original loan closing date. Government-backed loans may have additional guidelines. 

Does refinancing hurt my credit score? 

Refinancing can cause a small, temporary dip in your credit score. When you apply, your lender will perform a hard credit inquiry, which can lower your score by several points. If you make payments on time and manage debt responsibly, your credit score will recover quickly.

Can I refinance with little to no equity? 

It depends what type of loan you have. Conventional refinances generally require some home equity — often between 5% and 20%. Some government-backed loans offer streamlined options for borrowers with little equity. Two examples are the FHA Streamline Refinance and the VA Interest Rate Reduction Refinance Loan. 

Should I refinance into a 15-year or 30-year mortgage? 

This depends on your financial goals and cash flow. A 15-year mortgage may have higher monthly payments, but you’ll pay off your home faster and will pay significantly less in interest over time. A 30-year mortgage generally will offer lower monthly payments, which can free up cash for other needs. If your priority is long-term savings, a shorter-term loan makes sense. If you value lower monthly obligations, a 30-year term offers more breathing room. 

How often can you refinance a mortgage? 

While there’s no law saying how often you can refinance, keep in mind that every new loan comes with its own closing costs. Most lenders also require a waiting period (often called seasoning) before you can refinance again — especially if you want to take cash out. Before you sign, make sure the long-term savings will eventually cover the upfront costs of the new loan.