Key takeaways

  • If you're seeking more affordable mortgage payments, a loan modification or refinance can help bring relief.
  • Loan modifications cater to homeowners experiencing financial hardship who are unable to make timely payments but want to stay in their homes.
  • Mortgage refinancing replaces your current loan with a new one, often to get a lower interest rate, a different term or both.

A loan modification and a mortgage refinance aim for the same goal — to save you money by lowering your monthly payments. However, when it comes to which option you should choose, keep in mind that these two tactics and their use cases are quite different. To help you explore mortgage modification vs. refinance, let’s look at these two options.

Loan modification vs. refinance

Key terms

Loan refinance
A mortgage refinance involves swapping your current loan with a new one, typically with a different rate, term or both.
Loan modification
A loan modification is a form of relief for borrowers struggling to make mortgage payments.

A refinance is something you choose to do — if you don’t refi, the consequences are minor. You might miss out on some savings, but you won’t lose your house. A loan modification, on the other hand, is a loss mitigation option you might need to do if you are struggling to make mortgage payments. Without a loan modification, you risk going into default and losing your home to foreclosure.

To qualify for a loan modification, you’ll need to be behind on your payments or about to miss a payment, and you’ll need to document an economic hardship. To qualify for a refinance, you’ll need to be current on your mortgage payments and prove that you make enough money to absorb the new payments.

How loan modification works

A loan modification adjusts your current mortgage to make the monthly payments more affordable. To achieve that goal, lenders can reduce the interest rate, extend the loan term or change the loan type (or do a combination of all three). You’ll typically pay a small administration fee to modify your loan.

How refinancing works

When you refinance your mortgage, you replace it with a different one, often with a new interest rate or loan term. Homeowners typically refinance to lower their monthly mortgage payments, pay their home off faster or tap into home equity. Unlike a loan modification, it comes with hefty closing costs.

When loan modifications make sense

If you have not been able to stay current on your mortgage payments, a loan modification could make sense, provided you can get approval from your lender. You should also consider a loan modification in these situations:

  • You have poor credit. Modifications are attractive to struggling borrowers because they don’t require a high credit score. This option is designed to keep borrowers out of foreclosure.
  • You’re unable to provide proof of income. Unlike refinances, loan modifications do not require proof of income to get approved. You will need to provide documentation of a financial hardship, however.
  • You need immediate relief. Usually, loan modifications provide immediate mortgage relief, whereas refinancing can take 30 days or more. Borrowers can’t access cash via loan modifications (like in a cash-out refinance), but a loan modification doesn’t prevent homeowners from selling their homes.

Before applying for a loan modification, consider the pros and cons to determine if it’s a good fit for your financial situation.

Pros of loan modification

  • Lower monthly payments: By extending the loan term or lowering your interest rate, you could owe lower monthly mortgage payments.
  • Avoid default and foreclosure: Agreeing to loan modification can help you avoid losing your house from missing mortgage payments.
  • Keep the same loan with new terms: This is a big difference between loan modification and refinance. With modification, you keep the loan rather than swapping it out for a new one. This helps you avoid paying closing costs for initiating a new loan.

Cons of loan modification

  • Must show hardship: Lenders will only explore this option with you if you can show proof of financial hardship, such as job loss or divorce.
  • Your credit score might take a hit: Lenders might not offer loan modification until borrowers have missed payments, something that dips your credit score.
  • Negotiating with lenders can be a cumbersome process: Lenders aren’t required to accept your loan modification application. Be ready for some potentially time-intensive processes to find a solution that works for you and your lender.
  • Waiting period to refinance: Some lenders institute a waiting period. If yours does, you’ll need to get through it before you can explore a refinance after loan modification.

When refinancing makes sense

If you’re up-to-date on your mortgage payments, refinancing might make sense. Other reasons it can make sense to refinance include:

  • You could get a lower interest rate. The classic reason to refi is to lower your mortgage interest rate. However, your situation may not yield such dramatic savings, so be sure to calculate your break-even point. This equals the amount of time you’ll need to make up the closing costs through lower monthly payments.
  • You’re renovating your house. If it’s time to update your kitchen, upgrade your bathrooms or otherwise modernize your house, mortgage money is the cheapest financing available. A cash-out refinance lets you tap into home equity to pay for construction. This makes the most sense if you have plenty of equity, and if the renovations will add to the resale value of your home.
  • You have an FHA loan. Borrowers who took Federal Housing Administration (FHA) loans can be especially good candidates for refinancing. That’s because FHA loans include steep mortgage insurance premiums that don’t go away over the life of the loan. The mortgage insurance premium on an FHA loan is between 0.45–1.05 percent per year, depending on your loan size and how much you put down. Eliminating that monthly fee could make refinancing into a conventional loan without mortgage insurance a good move.

As with any mortgage product, it’s worth evaluating the pros and cons before applying.

Pros of refinancing

  • Lower interest rate: This has been a huge driver of refinances over the years. That said, with rates at historic highs right now, you may want to wait if this is your main reason to refi.
  • You can pull cash out: If you choose a cash-out refinance, you can turn some of your equity in your house into liquid capital that you can use however you want.
  • You can switch terms: You might refi into a loan with a shorter term so you can pay down your mortgage faster. Or you might refinance an adjustable-rate loan to a fixed-rate one to avoid paying more if rates continue to climb.  

Cons of refinancing

  • You’ll need solid credit and income: The underwriting process for a refinance is not unlike the one to get your first mortgage. Lenders want to see you’re in good financial standing before they issue you a new loan.
  • Closing costs are steep: Expect to pay thousands of dollars to refinance your mortgage.
  • You could reset the clock on your debt: When you refi, you’ll have the option to choose the new loan term. Say you’re five years into a 30-year mortgage. While refinancing to a new 30-year loan could lower your monthly payments, it means you’re looking at day one of a new three-decade loan.

How to modify your loan

Each lender has its own rules and requirements for loan modifications. Most require you to provide documentation, including a hardship letter, bank statements, tax returns and proof of income.

If you’re struggling to make your payments and you think you qualify for a modification, contact your lender and ask how to apply. Lenders aren’t required to accept your application, and your lender might reject your request. In that case, you still might be eligible for a refinance.

How to refinance your loan

Refinancing is essentially shopping for a new loan. Contact several lenders — comparing three or more offers can save you thousands of dollars over the life of your loan.

When you find an offer you like, you’ll have to provide the same documentation you submitted when taking the original loan: usually, bank statements, pay stubs and tax returns. You might need an appraisal, and you’ll need to pay for title insurance. The process can take up to two months.