Refinancing an FHA loan can be done at any time. The FHA doesn’t have regulations regarding how long you must have the loan first. However, a lender may have some specific requirements. The most common requirement is to have the loan for at least 6 months. They call this seasoning. It gives the lender a chance to see that you can make the payments on time. It also depends on the type of loan you refinance into as you have choices. Here we discuss your options and what you need to know.
FHA Streamline Loan
The most common way to refinance an FHA loan is with the FHA Streamline program. It allows you to refinance with little verification. You don’t need to prove your income, assets, credit score, or the value of your property. The FHA only cares about your payment history. They look back at the last 6 months of payments. This is the one case where you need a 6-month history before you can refinance. However, you can start the process before that point. The lender will wait until you make your sixth payment to pull your case number and close the loan, though.
Qualifying for the FHA Streamline loan is simple:
- Your past 6-12 months of FHA payments must be on time
- You must prove you live in the home
- You must only refinance the outstanding principal balance – you can’t receive cash in hand
- You must be able to afford the closing costs or negotiate a no-closing cost loan with the lender
FHA Cash Out Refinance
Another option is the FHA cash out refinance. This program requires you to verify all aspects of your qualifying factors. Because you will borrow more than the original amount, the lender must verify your:
- Credit score
- Home value
Each of these factors determines how much you can borrow. For example, a higher credit score will likely help you borrow more. A lower credit score shows that you are risky. A lender may not even let you take cash out of the property. The same goes for your debt ratio, which is directly related to your income. The more you make and the fewer debts you have, the more likely you are to get approved for a cash-out loan.
In this instance, the FHA requires you to wait at least 6 months before applying for an FHA cash out refinance. This gives the lender time to make sure you can make your payments on time. If you do refinance before you are in the home for a year, you may not be able to take advantage of an increased home value. The lender must use the lower of the appraised value and the purchase price. Whichever value they use, you can only borrow 85% of that amount.
FHA to Conventional Loan
Some borrowers want to get out of the FHA loan. They use it to help them buy the home, but they don’t want to pay the mortgage insurance for long. The only way out of the mortgage insurance is to refinance into a conventional loan. Borrowers often use FHA loans because they have a higher debt ratio or lower credit score at the time of application. Once they fix either issue, they want to refinance.
Keep in mind, refinancing into a conventional loan with more than an 80% LTV means you’ll pay Private Mortgage Insurance. The good thing about PMI, though, is you can cancel it. Once you reach less than 80% loan-to-value, you can drop the PMI, oftentimes without refinancing.
Refinancing into a conventional loan doesn’t require you to have the loan for a certain amount of time. Just like many other programs, though, the lender may require you to own the home for 6 months first. This is a standard requirement for many lenders.
Should You Refinance an FHA Loan?
Now the big question is whether you should refinance an FHA loan. This is a personal decision. Does it make sense to refinance? Do you save money by doing so? Think of all aspects of the process. You’ll pay closing costs unless you negotiate a no-closing cost loan. The closing costs could equal between $5,000 and $10,000. You must take this into consideration. Before you jump onto the bandwagon, figure out your break-even point. Here’s how you do it:
Closing costs/monthly savings = Break-even point
Here’s an example:
Your closing costs equal $6,000. Refinancing will save you $150. Your break-even point equals 40 months. This means you won’t see the savings until 3 1/3 years.
Of course, if you take cash out of the equity, your break-even point will be different.
Once you know your break-even point, you can determine if the refinance is worth it. Consider your plans. Will you stay in the home for the long-term? Let’s say in the above example, you planned on moving in 3 years. Refinancing wouldn’t make sense in that situation. On the other hand, if you planned to move in 10 years or more, it would be worth it.
Another main factor is determining fi you can afford the closing costs as well. Most loans require you to pay the costs up front. There are some cases where you can get help. For example, a relative that gives you gift funds can help. You can also take a slightly higher interest rate and let the lender pay the closing costs. This takes away from your savings, though.
The bottom line is you can refinance an FHA loan as soon as you need to. Whether or not it makes sense, though, is a different story. You don’t start paying principal on your loan for at least a few months. The beginning months’ payments mostly cover interest. You don’t make a dent in the principal for at least a few years. Waiting to refinance can work in your favor, but there are good reasons to do otherwise. Talk to your lender to see which options suits you the best.