refinance

3 strikes may mean mortgage refinance is out

Don TaylorQuestionDear Dr. Don,
My husband and I have struggled for the past few years, but thankfully we have been paying off bills and raising our FICO scores. Unfortunately, we had refinanced with a subprime lender and now have nothing to show for it except a high mortgage rate (that was lowered to 8 percent) and a $438,000 mortgage. The houses in the neighborhood are selling for about $480,000. We are in a stable area with great schools, etc.

We can finally refinance, but we do not have enough equity in our home. Since I am already paying $3,700 a month for my home loan (taxes and insurance included), would it be a horrible idea to do a 15-year mortgage? We plan on staying in this house for a maximum of six years. Our average FICO score is 670 with a combined income of $175,000.
-- MP Mortgages

AnswerDear MP,
I don't want to discourage you, but you have several things working against you in getting approved for a refinancing. First, you don't have 10 percent equity in your home.

Second, while you've been bringing your FICO scores up, the average of the two scores is still in the fourth tier of FICO scores as presented on the myFICO.com website.

Third, your outstanding loan balance of $438,000 may mean you will need a jumbo loan to refinance. Jumbo mortgages can be difficult to come by because Fannie Mae and Freddie Mac no longer buy jumbo mortgages.

You can find out the "conforming loan limit" for your area on the Federal Housing Finance Agency website. If you live in a high-cost region, you may qualify for a "super conforming loan," which is different from a jumbo loan. Fannie Mae and Freddie Mac do buy super conforming loans.

Assuming your home would appraise right about where your neighbors' homes are selling, you're very close to having 10 percent equity in your home. Making $6,000 in additional principal payments to your mortgage would get you to that percentage of equity.

Time and a good payment history heal all wounds when it comes to credit scores. I don't know if you're being coy about your scores by saying your average score is 670. After all, that's true if your score is 780 and his is 560. You're only going to be in the house for six years. You don't want to wait too long to refinance, but getting the lower of your two credit scores into the upper 600s certainly would help.

I don't think you're going to see a huge difference in the interest rates you're offered on a 30-year fixed rate mortgage and a 15-year note -- especially on an after-tax basis. Bankrate's "Mortgage tax deduction calculator" will help you estimate the after-tax rate on a new mortgage. If there's not much of a difference, I'd recommend sticking with the 30-year note and making additional principal payments as desired to shorten the loan's term.

Since you plan to move in six years, you've only got a six-year horizon for making a refinance make sense. Bringing the rate down from 8 percent into the 5 percent region would be huge, but you need to work on improving your credit scores and building your equity.

Price appreciation is nice, but additional principal payments work and you don't have to wait on them if you have the funds. The Bankrate feature "'Cash-in' refinance activity skyrockets" can provide some inspiration.

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