Refinancing Your FHA Loan to a Conventional Loan
With interest rates slowly showing signs of rising, you may be wondering if it’s finally time to refinance your FHA to a conventional loan. The wide range of benefits of switching, like a better interest rate and lowered monthly payments, makes it seem like it’s worth a shot.
However, there are some obstacles to refinancing that make an FHA loan make more immediate financial sense. Keep reading to learn if it’s the right time to switch and explore the benefits and disadvantages of refinancing an FHA loan to a conventional loan.
Is It the Right Time?
The first to check for when deciding to refinance an FHA to a conventional loan is eligibility. A few considerations include your credit score, current interest rates and funds to pay for closing costs.
Most conventional loans will require your credit score to be at least 620. If you happen to have a credit score slightly under the minimum, it doesn’t mean you’re immediately ineligible.
Because requirements vary from lender to lender, you may find one that can accommodate your credit score with some time on the phone. However, if you find a lender willing to offer a conventional loan with lower credit, it may come with additional fees. In most of these cases, the fees make holding onto an FHA loan much cheaper.
Either way, if you’re considering switching from an FHA to a conventional loan, the first step is to request a free credit report. Under the Fair Credit Reporting Act (FCRA), you’re entitled to one free copy of your credit report every twelve months.
Even though it may be a hassle, it’s a good idea to request a free report from Equifax, Experian and TransUnion to double-check for any inaccuracies. That way, if all the stars align, you know that you can get a better interest rate.
In addition to your credit score, you should also consider where the current interest rates are and how much money you would end up saving. One of the biggest expenses with refinancing comes with the closing costs.
Consider how much money you can save versus how much you would spend on closing costs to determine if it makes financial sense to switch over.
The Benefits of Refinancing an FHA Loan to a Conventional Loan
One of the main benefits of switching to a conventional is having the option to cancel the FHA mortgage insurance premium.
Eliminating Private Mortgage Insurance
The ability to cancel your private mortgage insurance (PMI) is an enormous advantage of conventional loans. Typically, FHA loans require continuous PMI payments for the life of the loan. Meaning you’ll end up paying until you switch to another loan type.
While that sounds like enough reason to make the switch, you must remember that conventional loans may still require PMI payments. The option to cancel PMI is only available once you reach a 78 percent loan-to-value ratio. However, there are a few options that make the conventional loan PMI worth considering.
The most common option is a monthly premium. The payments for this option are calculated by dividing the annual rate by twelve. If that’s an option not worth considering, then you also opt for the single or split premium. While they are both upfront payments, split premiums typically involve the seller paying the upfront costs.
In some situations, refinancing to a conventional loan can mean that your PMI payments will end up costing more. However, making the switch can reduce your monthly payments enough to make it affordable until the time comes when you can cancel the PMI.
The Disadvantages of Refinancing an FHA Loan to a Conventional Loan
Having the ability to cancel your PMI once your loan-to-value ratio reaches 78 percent is extremely advantageous. However, it comes with paying another closing fee and time spent gathering documents.
Even though a closing cost may not seem like much compared to the overall size of the loan, it’s still in the range of a few thousand dollars. In fact, the closing costs can range between two to five percent of the total loan amount.
However, there is a silver lining if that’s enough to deter you from refinancing to a conventional loan. Closing costs, in general, aren’t set amounts and depending on various factors, they may be negotiable.
Because the negotiations are on a case-by-case basis, the only way to know for sure is to get in contact with a reputable lender.
Most times, the only closing costs that can be negotiated are those charged directly by the lender. These include application, origination and underwriting fees.
When refinancing to a conventional loan, you’ll need to gather a few documents. These include recent pay stubs, copies of credit reports, two years of tax returns, your W2 and potentially an additional appraisal. While gathering documents isn’t an enormous disadvantage, it can feel like a tedious task.
Making the Switch
Before deciding to refinance an FHA to a conventional loan, it’s beneficial to consider several factors. Take a few minutes to estimate costs, weigh any benefits and disadvantages and how they affect your overall financial picture.
Of course, refinancing to a conventional loan wouldn’t make sense in a few instances. If the closing costs are too high, PMI options are unfavorable, or if you don’t meet the requirements, then refinancing might not be the best strategy.
Get in touch with one of our lending experts to determine if refinancing now is beneficial and if it can help save you money in the near and long term.