Refinancing a loan is a big decision, and one that shouldn’t be made lightly. It can bring a measure of financial stability and freedom to your life when you otherwise feel overwhelmed. Debt is one of the most crushing factors in a person’s life, and unfortunately there’s no way around it. Buying a house, buying a car, going to college, and even filling your home with appliances and furniture all come with a massive price tag that usually means taking out a loan. In theory, that should be an easy, convenient way to secure a better future – buy now, pay later. Unfortunately, predatory lending and other unethical practices have made debt more than just a hassle. It can be financial doom.
There are tools and options that a borrower has that can return a semblance of control over their financial destiny. One of the most powerful of these tools is refinancing your loans. This will restructure them under new terms, and will frequently make paying them back easier – or, in extreme cases, possible at all in the first place. In this article, we’ll go over what that means, under what circumstances it might be the right choice for you, and how to pick out the best way to actually get it done.
How Does Refinancing Work?
The core principle behind the process is to either take one loan and restructure it with more favorable terms, or to take several and consolidate them into a single, more easily manageable one. You can refinance just about any kind of debt, and doing so usually has nothing but advantages for the borrower. There are very few instances when choosing to consolidate and restructure your loans are a bad idea, and those are extremely context specific and usually confined to mortgages. We’ll go over those instances when we talk about mortgage-specific considerations, but generally, other kinds of debt are almost always available to restructure, and doing so will almost always yield benefits for you.
The way it works is simple. When you take out a loan, you agree to pay back the principal amount you borrowed plus interest. That interest can add up quickly, especially if you have multiple loans across multiple markets. When you refinance a single loan, you renegotiate new terms for it. This can include a new interest rate, which can lead to more favorable and lower monthly payments. Refinancing is done through either banks or third-party companies, who essentially pay off the original loan on your behalf. You then owe the company or bank from then on; from your perspective, the only thing that changes is the amount you pay per month, the name on the bill, and potentially the length of your term.
For multiple loans, the idea is the exact same with one difference. The company or bank performing the service for you will pay off all of your negotiated loans simultaneously. Then, like when they cover a single debt, you owe them for the whole consolidated instead of multiple separate agencies. Doing it this way can convert multiple bills with multiple interest rates into a single amount you pay to the consolidating agency directly. By combining your many bills into a single one, you can avoid missing payments and can plan significantly more easily and better take control of your finances. One bill is easier to manage than several, and combining everything under a single interest rate can make the amount you pay significantly lower. There are specific considerations to make when dealing with different kinds of debt. Mortgages are in their own category, while everything else falls together. Let’s explore the differences between them, and what specific things you need to keep in mind.
Mortgages
In French, the word ‘mortgage’ is derived from the words for ‘promise’ and ‘death’. Altogether, it means ‘a pledge you are responsible for until you die’. That’s an incredibly apt description of what a mortgage is. For the vast majority of people, it’s the single most enormous and life-consuming expense we’ll ever have. Until death is right; sometimes it feels like the debt will outlive us. Unless you can buy a house with cash out of your own pocket – in which case, please tell me your secrets – you’re going to need to borrow money to afford it.
Refinancing is usually a good idea when it comes to managing that mortgage, especially when you’ve been paying for a while and want to get that payment down. There are a few reasons why you might want to consider pulling the trigger on it. Aside from the benefits we’ve already talked about – that is, renegotiating a lower monthly payment by locking in a better interest rate – there are options specific to mortgages that make restructuring an attractive choice – but not always the best one. A unique option when redoing your contract is to negotiate for an amount higher than what you actually need, and taking the remainder in cash. This is essentially borrowing against the equity of your home to liquidate cash in case of an emergency.
There are plenty of reasons to consider doing this, but there are some circumstances where you shouldn’t. The main reason to do it, of course, is to save money on your ongoing payments, which can be a smart decision. However, there are downsides to doing so if you’re not smart, as you can see here. You may find yourself with a longer break-even period, which is determined by dividing your closing costs by how much you’d be saving per month. If your break-even period is going to be longer than what it is now, you may want to reconsider. You also might not be able to afford the closing costs on the new contract, which can be pretty steep.
Student Loans and Other Debts
The other major reason people consider refinancing is to consolidate and manage student loans or other debt, which are two categories separated largely only by the amount of money you owe. Student loans are absolutely insane, and most millennials have resigned themselves to dying under them. Most student loans come with massive interest rates attached, and that interest rate can inflate the actual payments beyond what most people can control, especially when a borrower has taken out money from multiple different sources. If you have both private and federal loans, the monthly payments can be devastating. It’s no wonder that many students are opting not to pay back loans at all, especially when they need to decide whether they’re going to buy rent and food or make a payment to the bank and government.
The crisis has gotten so out of hand that many borrowers are experiencing the strange, infuriating circumstance where they make regular payments but don’t see their balance decrease, or in some cases, see the balance increase. Forbes reports at https://www.forbes.com/sites/adamminsky/2021/08/12/for-many-paying-student-loans-doesnt-stop-balances-from-growing-advocate-push-cancellation-as-a-fix that this problem is becoming increasingly common among borrowers with higher balances. Consolidating multiple repayments into a single, easy to manage one is one strategy they recommend, as this can get the snowballing interest rate problem under more control. The main difference between student repayments and other debts from credit cards, vehicles, and other sources of debt is that declaring bankruptcy doesn’t wipe the debt away. No matter what, this kind of debt will be with you for a long time, and consolidating it is one of the few tools you have to make it more manageable.
What Are My Options
Getting a consolidation plan on your bills is pretty straightforward. In fact, you may find that you have too many choices, and that they can be overwhelming. Avisen refinansiere, a Danish expert on financial markets, recommends looking for agencies outside of banks for more competitive, favorable terms. Banks have some advantages over private companies, but those advantages pale in comparison to the bottom line of having a more competitive interest rate on the back end, which tend to be higher with banks. Additionally, you want to look for companies that meet your specific needs and cover a wide array of options for you. Financial experts wherever you look can advise you on what your best move is. Importantly, you want to make sure that you narrow your choices down to two or three options. That way, when you’re ready to apply for your new loans you only make a few applications and don’t negatively influence your credit score, which will factor in to the negotiations.
