Debt can put a damper on everyday life, and you likely want to stay on top of your financial obligations before they get out of hand. One way to do that could be to refinance.
There are many reasons you may want to refinance some or all of your debt, but this option might not work for everyone. Learn more about what debt refinancing entails to determine whether it’s right for your situation.
Refinancing refers to the process of getting a new debt instrument to pay off and replace a current one, often with terms that work better for you. Debt instruments can include loans, credit cards, bonds and lines of credit.
You’d typically want to refinance your debt to take advantage of a new financial situation (such as increased household income), improved credit score or an interest rate drop. The bottom line is that you’d refinance to try and put yourself in a better position to repay existing debt.
There are many reasons you may want to refinance your debt. Here are some of the most common for borrowers:
If interest rates have dropped or your credit score has improved since you first obtained a loan, you may be able to secure an interest rate that could save you money in the long run. In addition, the money you’d be paying towards your interest rate could be used for the actual loan amount.
With a lower interest rate, your monthly payments would theoretically be lower as well. This could help you better budget for other financial responsibilities and save more money in the long run.
A different payment amount every month could make it more challenging to budget for other monthly necessities. If your loan has a variable interest rate that often fluctuates, you could refinance to have a fixed interest rate to have more predictable monthly payments.
No one wants to be stuck paying off debt for years or even decades. Refinancing could give you the opportunity to change your loan term to pay it off faster. Keep in mind that shortening your term typically increases your monthly payments, but you could save in interest over the life of the loan.
Refinancing could also help you consolidate your debt. You may be able to pay off multiple debts or refinance them into one payment, which could make your debt easier to manage.
Missing a couple due dates on your debt payments can happen, but they may also come with late fees or other penalties that can put you further into debt. Refinancing could give you a chance to make your debts current again and prevent more fees.
While restructuring your debt and refinancing your debt are both ways to help you ease the burden of your financial responsibilities, they’re not the same thing. Debt restructuring refers to the altering of your existing debt, instead of replacing it with something new (like debt refinancing).
Restructuring your debt can help you avoid bankruptcy, but it can still be expensive since you may have to hire other professionals to help you negotiate your loan terms. In addition, your credit score could decrease, and interest payments could increase.
If you decide that refinancing your debt could be a viable option for your situation, consider the following as you start the process.
As with many other loans, there’s a price to refinancing. These could include closing fees, transaction fees, penalty payments and more. It may be helpful to calculate how much you’d save by refinancing versus the cost of the process to see if it would be worth it in the long run.
Refinancing could cause your credit score to take a hit as well since lenders would need to make a hard inquiry on your credit. In many cases, this is temporary as long as you continue to make payments on time and be mindful of the other factors that make up your credit score.
Either a longer or shorter repayment plan after you refinance could be costly. If you refinanced to decrease your monthly payment, you might have a longer repayment plan and may end up paying more in interest over the life of the loan. In contrast, if you refinanced to pay off your debt faster, your monthly payment could be higher and may not work for you if you can’t comfortably afford the bill.
Refinancing isn’t a solution for everyone. Before you decide to jump into this option, make sure the benefits outweigh the risks. Otherwise, you may end up in a worse situation than what you started with.
This article is intended for general informational and educational purposes only and should not be construed as financial or tax advice. For more information on financial planning or investment advice, consult a registered investment advisor or financial planner.
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