Refinancing private mortgage – Important things and risks to remember

If you have a mortgage through a private lender, you might be thinking if you can possibly refinance it into a traditional mortgage.

Refinancing a private mortgage into a traditional mortgage is practically quite identical to a standard conventional mortgage refinance.

So, similar to a mortgage refinance option, you must keep your eyes on few things first:

1. If you have equity in your home - Homeowners must have 20% equity in their homes if they want to avoid PMI (Private Mortgage Insurance) at the time of taking out the loan. But those who don’t have that equity may also apply for a refinance by opting for some Fannie Mae and Freddie Mac programs.
2. If you have a decent credit score - You’ll need a credit score of 720 or higher to get the lowest rates on refinance. Whereas, borrowers with low credit score (below 620) may have issues qualifying for a refinance at any rate.
3. If you have a financial goal - You should consider contributing to retirement savings and college savings for your kids, paying off high-interest debt, and save 6 to 12 months’ of expenses before opting for a short-term, costly refinance loan.
4. If you don’t want to stay long - Borrowers can calculate a home refinance to cost 3% to 6% more of the total loan amount. So, only if you have plans to stay longer, refinance is the best choice for you. Through refinance you can save more in the long term. But if you plan to move out in 2 or 3 years, it may not make any sense.
5. If you have a second mortgage or line of credit - Borrowers with a second mortgage may face difficulties when refinancing. They can either pay off the second mortgage or combine the old and the new into a larger first mortgage.

Now, why should you refinance a private mortgage? Let’s check out:

Understanding the risks when refinancing a private mortgage

At any point of time, it may become impossible for you to carry out an existing loan due to financial issues. So, you must take your time to consider the following questions if you are thinking of refinance a private mortgage:

1. Is there any possibility that the personal relationship might change between you (the borrower) and lender?
2. If you can’t repay the loan, will that affect the lender’s financial status? (ability to retire, risk of bankruptcy, etc.)
3. If the loan is not repaid, who’s going to be the victim?
4. Can you follow IRS rules related to gifting?

Things to remember:

In order to refinance a private mortgage into a traditional mortgage, you will require similar documents you required at the time of applying for the original mortgage.

Moreover, you will need a Verification of Mortgage (VOM) from the mortgage holder. The VOM will be considered as the details of the mortgage and your payment history. You must also provide the deed and the tax bill for the property; it will help you to deal with the transaction swiftly. So make sure to arrange these papers as well.

At the time of refinancing a private mortgage, your credit scores will be considered just as they are required to qualify for approval for the traditional mortgage. Additionally, an appraisal process must be initiated to assure the value of the property still supports the loan.

Your refinance agreement should be well documented. It’s best to avoid any loose ends legally from the beginning. It will be helpful for you to present all the details in front of the court if some critical situation arrives.

You must check:

1. The date of payment each month
2. The probable issues if the payments aren't received
3. The mode and party whom you make the payment
4. Any prepay penalties
5. What steps the lender can take if payments are missed
6. Can payments be automated
7. Will documents be filed with local government to secure the loan
8. Can credit bureaus be informed about the payments made

You must remember that many borrowers in private mortgages do qualify for a traditional financing, but most of the time they may not know about it. Keep in mind that as your existing mortgage is reflected on your credit report, it may greatly influence your credit score. So, if you are current on your monthly mortgage payments till the time you’re applying for a refinance, it’ll positively affect your credit score and help you to get approved.

Read more: Is it possible to get a refinance in just 21 days