Whether your goal is to reduce your monthly payments mortgage payments or prepay your mortgage, there are several strategies that can help. Most homeowners know about the mortgage refinancing. Refinancing allows homeowners to re-let their mortgages to take advantage of lower interest rates. However, not all borrowers are eligible for mortgage refinancing. A less well-known option for some borrowers is called loan amortization or loan redesign.

What is loan overhaul?

Recasting or amortizing a loan usually requires a borrower to pay a lump sum to cover the balance owed — called the main-on the mortgage. The remaining payments are recalculated based on the new lower principal balance. This creates a new loan repayment schedule — called a Amortization schedule.

Essentially, the payment schedule is recalculated to reflect the fact that the mortgage now has a smaller loan balance due to the principal payment.

Reasons to recast a loan

Typically, borrowers choose to recast a loan to lower their monthly payments. However, some borrowers continue to make their previous mortgage payments and thus repay their loans sooner. Others use the additional monthly cash savings to invest, pay off debt, or save for other purposes.

Another time loan redesign can come in handy is when a borrower purchases a new home before their current home is sold. If a borrower can qualify for the new mortgage while paying for the previous home, a loan redesign can be done. The proceeds from the sale of the previous home can be used, in part, to pay off the principal of the new home. However, most lenders do not allow a recast until at least 90 days of mortgage payments have been made.

A big reason not to recast a loan

While being unable to refinance due to legitimate reasons credit problems is a reason to recast, the inability to refinance due to discrimination is not. You should never feel like you have to pay too high interest rates or that you are being taken advantage of by your lender. Numerous mortgage lenders don’t discriminate and they are ready to lend you at market rates.

Benefits of loan redesign

There are benefits to mortgage redesigning or overhauling that homeowners should be aware of before refinancing or redesigning their mortgage.

Lower monthly payment

Putting extra money on your principal balance allows you to pay off your mortgage sooner. However, the added benefit of redesigning the loan is that your monthly payments are recalculated to reflect the new balance.

Credit problems

Refinancing a mortgage is a bit of a misnomer, as the process is similar to applying for a new mortgage. This includes reapplying for a loan, an income check, and a credit check. For borrowers who cannot refinance due to credit issues or low home equity, a loan overhaul might be a good option because they are not asking for a new loan.

A typical refinance involves reserving a new loan, changing the interest rate, and the length of the loan. However, the recast keeps the original loan intact and only changes the monthly payment.

Reduced fees

A loan redesign can save on refinancing costs since a loan redesign does not require a loan application. As a result, the closing costs are significantly lower for loan refits compared to refinancing. Refinancing fees can cost around 2-3% of the loan amount. In other words, a $ 200,000 mortgage refinance could cost $ 4,000 in fees and closing costs (2% * $ 200,000). When refinancing, the new interest rate must be low enough to recoup the thousands of dollars in closing costs.

Disadvantages of a loan redesign

However, just as there are advantages to carrying out a loan amortization or overhaul, there are also disadvantages that homeowners should be aware of before making a decision.

Lump sum payment

Finding the money for the lump sum payment can be quite difficult. Some borrowers just don’t have tens of thousands of dollars in their savings account to make mortgage principal payments.

Additionally, some financial planners suggest that there are better uses for cash than paying off the mortgage balance. For borrowers who have credit card debt, an underfunded retirement account, or don’t have an emergency savings account, paying off mortgage principal may not be the best financial decision. .

No interest rate change

Another disadvantage, depending on the terms of the mortgage, is that a amortization will not reduce the interest rate on the loan. When mortgage rates are low, it may be better for homeowners to refinance, even with closing costs. Some borrowers choose to refinance first and then amortize within a year or less to reap the benefits of both financing options.

Prepay the mortgage early

Suppose the goal is to pay off the mortgage faster. In this case, borrowers might be better off paying extra on principal every month or making an extra payment every year. Additional payments over time will reduce the total amount of interest paid over the life of the loan. Paying off the mortgage sooner is an added benefit.

Exclusions exist

Unfortunately, a loan overhaul is not an option for all types of mortgages. Typically, only compliance Fannie Mae Where Freddie mac conventional loans are eligible. FHA 203 (k) loans and loans to veterans (VA loans) cannot be amortized.

Jumbo loans can be recast based on the lender, and there are stipulations. For example, the loan must be in good standing. Also, if the loan has been sold to an investor, the investor must agree to a loan redesign with your mortgage agent.

Example of loan redesign vs. refinancing

For example, suppose a borrower is considering refinancing their mortgage or redesigning their loan. The borrower initially had a mortgage of $ 350,000 over 30 years at an interest rate of 4.25% with a payment of $ 1,722 per month.

The borrower now has 15 years on his mortgage with $ 240,000 remaining on the loan balance. The borrower is considering refinancing into a 15-year mortgage or overhauling the existing loan.

Overhaul

• The borrower pays $ 40,000 for the principal, which means that the new loan balance would be $ 200,000.
• The monthly payment would be reduced from $ 1,722 to $ 1,505.
• The savings from the new monthly payment would be $ 217 per month.
• The interest rate would remain at 4.25%.

Refinance

Let’s say the new mortgage rate for a 15-year loan is currently 3.20%.

• The new monthly payment would be $ 1,681 at the refinanced rate.
• The monthly savings would be $ 41 ($ 1,722 – $ 1,681).
• Closing costs and fees were $ 3,000.
• It would take 73 months or six years based on the savings of $ 41 per month to recoup the closing costs.

Comparison

Suppose the borrower’s goal is to save on monthly payments and avoid refinancing closing costs. In this case, it looks like redesign would be the best option. However, the overhaul costs the borrower more in the long run.

Although the redesign offers a lower monthly payment, the interest rate of 4.25% is higher than the refinance rate of 3.20%. Therefore, the interest on the recast mortgage would exceed the interest on the refinance when the 15-year loan is finally paid off. The recast interest would equal $ 70,820, while the total interest with refinancing would only be $ 62,504.

Additionally, refinancing saves the borrower the $ 40,000 principal used in the overhaul. These funds could be invested in a savings account and earn interest during those 15 years. A borrower should consider the interest savings from refinancing and closing costs compared to the savings from monthly remaking payment along with the principal payment.