Are you considering refinancing because it has been a widely discussed topic in the last year? Refinancing is at a 14 year high due to the historically low-interest rates. Refinancing a current loan can be a great option to improve a loan’s terms on a mortgage, auto, or personal loan. Refinancing can hurt your credit, but there are many positives, so understanding the process and how to minimize the impact on your credit is essential because refinancing is an excellent option to pay down or manage high-interest debt.
What Is Refinancing?
When you refinance a loan, you replace the terms of a current loan with new terms concerning interest rate, term of the loan, monthly payment, or any other terms in the agreement.
There are many situations when a borrower may choose to refinance a loan that includes lower available interest rates, improved credit score, or pay off high-interest debt and refinance their mortgage to pull cash out against the equity.
When you refinance a loan, each lender will make a hard inquiry on your credit which can negatively affect your credit
- Refinancing is when the terms of a current loan are revised.
- Interest rates, payment schedules, and other terms can be revised.
- Your credit is reviewed with a hard inquiry when you apply to refinance a loan.
How Refinancing Can Lower Your Credit Score
Now that we reviewed refinancing, we will address how it can lower your credit score.
When refinancing a loan, there are specific steps to the process. The lender has to pull your credit and make a hard inquiry to review your credit to refinance your loan. Hard inquiries affect your credit score up to 10 points and are visible for up to two years on your credit report but only impact your score for one year.
All those hard inquiries can negatively affect your credit when comparing interest rates with lenders when you want to refinance. To keep all of these hard inquiries from hurting your credit score, make sure to submit all your loan applications within a short period.
Most credit reporting agencies treat loan inquiries done between a 14-45 day period as one inquiry which will minimize the negative impact on your credit. Applying for different loans over several months could have a lasting, negative effect on your credit score.
When you refinance, you are taking out new credit and changing the length of your credit history on the loan, so both of these will affect your credit. Refinancing may also change the amount of debt you owe if you do a cash-out refinance. Cash-out refinance is when you take out cash on the equity you have available on your mortgage.
How Long Does A Refinance Hurt Your Credit Score?
When you refinance your loan, the bank or mortgage lender will pull your credit report, and you’ll be hit with a hard credit inquiry as a result. It’ll stay on your credit report for up to two years but only affect your scores for the first 12 months.
- Your credit score will be impacted temporarily
- Credit is affected by the mortgage refinance application
- But the impact is usually relatively minimal only 5-10 points
- Last minimal amount of time with score reversals happening in a month or so
Because a mortgage refinance is a new credit application, your credit score could see a slight ding, though it probably won’t be anything substantial unless you’ve been applying everywhere for new credit for a significant amount of time.
It isn’t possible to say precisely how much your score will be impacted and for how long. Each credit situation is different, but those with more significant credit histories will be less affected by any credit harm related to the mortgage refinance inquiry, while those with limited credit history may see a more substantial impact.
How Many Times Do They Pull Your Credit For A Refinance?
A lender may initially pull a soft inquiry that does not impact your credit when you apply to refinance. Each lender will only perform one hard inquiry on your credit report when applying to refinance a loan. If you apply to refinance a loan and wait 3 or 4 months to sign with the lender, this is the only exception where they will have to do a second hard inquiry. Too much time has passed between the initial hard credit pull and when you want to sign.
Your credit may be pulled numerous times if you shop interest rates and terms with multiple lenders, which most people do. Each lender will have to do a hard inquiry to review your credit to give you exact terms and rates. As I addressed earlier, as long as you do your shopping in a short time, it will show as one inquiry on your credit instead of 3 or 4.
As will anything regarding credit, how it impacts you is unique to your credit situation. Educating yourself before you decide to refinance a loan is the best way to reduce the impact on your credit once you do.
Preparing your credit, and waiting for an opportune time when low-interest rates are available will give you the most favorable result of refinancing a loan. Review your credit situation, loan and asking the lender questions will ensure you make the best decision for yourself and your credit.