Does refinancing hurt your credit score?
Credit dings are pretty much inevitable when you apply for a new credit account, open a loan, or close one. And refinancing your mortgage involves all these steps.
However, the credit hits from applying for and opening a refinance loan are very small — often “less than five points,” according to FICO.
The savings you’re likely to see from refinancing should far outweigh any negative impact on your credit. So don’t let that be a concern when you apply.
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How refinancing affects your credit score
Refinancing might lower your credit score by just a few points, but that’s inevitable when shopping for a new loan or credit account.
There are two reasons refinancing affects your FICO score:
- Length of credit history — FICO monitors the age of your oldest credit account and newest account, and averages out the age of the others. So think twice before opening or closing any account, especially credit cards you’ve had a long time. Closing your current mortgage may have little impact if it’s only been in existence a few years
- Soft and hard inquiries for new credit — When you check your own credit or a monitoring service does it on your behalf, that’s a ‘soft credit inquiry,’ meaning your score is unaffected. But when you apply for new credit, that’s a ‘hard credit inquiry’ and your score takes a small hit. FICO says for most borrowers, the hit’s likely to be “less than five points.” As long as you run all your accounts properly once the new one’s in place, your score should be back to normal within a few months
Also note that Experian, one of the Big Three credit bureaus, says many credit scoring technologies will continue to consider the payment history on your old mortgage even after you close it.
That can minimize the negative effects of closing your old loan. But be sure your current loan is in good standing when you refinance. More on that below.
For most, refinancing should have few, if any, lasting effects on your credit score.
Can refinancing help your credit score?
In some cases, refinancing your mortgage might actually help your credit score.
If you’re stuck with an unaffordable home loan, and high mortgage payments are preventing you from paying down other debts, refinancing into a lower monthly payment could do you a world of good.
Imagine you can lower your monthly mortgage payment by a few hundred dollars by refinancing. Now, you can stop making minimum credit card payments and actually start paying down your debt.
Some homeowners even use a cash-out refinance for debt consolidation.
This involves using home equity to pay off high-interest debts, thus consolidating them into a single, lower-interest loan payment to save money on interest.
If done right, the positive impact these strategies could have on your score would be much larger than any negative impact from refinancing.
How your credit score affects your refinance
Your credit score affects your refinance a lot more than your refinance affects your credit score.
That’s because a higher credit score can lower your mortgage interest rate substantially, whereas a low score typically means paying a higher rate.
As CNBC puts it, “As long as your interest rates are high, you’re putting less money into equity and assets and more money into servicing debt. And debt has no return on investment.”
In short, making smart credit moves and keeping your score up before you refinance can save you a lot of money in the long run.
Credit scores and refinance rates
Just how much can you save when you refinance with a high credit score?
FICO has a page on its website that lets you compare the costs of a mortgage depending on your credit score. We ran a sample scenario using a 30-year, fixed-rate mortgage of $200,000 and average mortgage rates on the day this was written.
Your own results will vary depending on your exact interest rate, loan amount, and location. But the overall trend is clear: your credit score makes a big difference in your refinance costs.
|FICO Score Range||Monthly Payment||Total Interest Paid (30 yrs)|
Of course, it’s not just your mortgage for which you’ll be paying more.
Your credit score affects interest rates on auto loans, personal loans, credit cards, and other financial products as well.
So instead of asking whether a refinance will hurt your credit, you might look at it the other way around: How can a mortgage refinance — or refinancing other debts into a lower interest rate — actually help your credit and improve your personal finances?
Tips to preserve your credit score when you refinance
Smart homeowners compare rates from several different lenders when they’re refinancing. If you want six quotes, does that mean your credit score takes six hits?
Luckily, no — getting multiple rate quotes won’t ding your score multiple times. FICO says its score “allows for rate shopping.”
But, you have to be smart about how you shop to protect your score — and that means getting all your quotes within a few weeks at most.
Comparison shop during a focused period
To protect your credit score when you refinance, you have to all your rate-shopping applications within a focused period. If you take several months to apply for quotes, each may be seen as a separate hard inquiry.
For FICO, a ‘focused period’ typically means getting your rate quotes within 30 days.
More recent versions of the FICO scoring model allow a 45-day period for rate shopping. But don’t take chances. Many lenders use older versions of FICO to calculate your score.
So, provided you make all your rate-shopping applications within a single 30-day timeframe, your score should take just one standard hit of around five points or less — the same as someone who doesn’t shop around.
Other steps to protect your credit
Experian raises an important point for refinancing homeowners: You need to be absolutely sure you make every payment on your original mortgage on time.
Especially if you have two mortgages at the same time, it’s easy to get confused about how much you owe to whom. And, worse, sometimes your new lender may encourage you to forget your last payment on your existing loan because your new mortgage will pay it off. But don’t do that.
Not all mortgage lenders are paragons of efficiency. And if your new one pays just a day late, your credit score will likely be dinged by a late payment.
How your credit score is made up
We mentioned above that refinancing can impact two credit scoring factors: the length of your credit history, and the number of soft and hard inquiries on your credit report.
But how big of an impact do those things really have on your score?
To give you a better picture, here are all the components that make up your credit score — along with the weight they’re given in FICO’s scoring model:
- Payment history (35%) — Paying bills late or skipping payments can quickly wreck your credit
- Amounts owed (30%) — This is about credit card balances rather than your overall debt. Keep all card balances below 30% of their credit limits and you should be fine
- Average age of credit accounts (15%) — The longer the better. But this looks at your current borrowing. So opening a new account or closing an old one makes your history shorter and your score lower
- Credit mix (10%) — This is your mix of “credit cards, retail accounts, installment loans, finance company accounts, and mortgage loans.” You don’t need one of each, but a blend of revolving credit (mostly plastic) and nonrevolving credit (installment loans, including those for cars and mortgages) boosts your score a bit
- New credit (10%) — If you apply for lots of new accounts over a short period, you’ll send up a red flag. But if you’re rate shopping for a single new loan like a refinance, and you get all your quotes within 30 days, you’ll only take one small hit
So those are the factors that FICO (and other scoring technologies) look at in order of importance. The two areas impacted by refinancing are lower on the ladder.
As long as you do it right, refinancing should only cause a small dent in your score — 5 points or less, in most cases.
What are today’s refinance rates?
Refinance rates are still at historic lows. But not all lenders offer the same rates. To find the best deal, you’ll need to shop around with at least 3-5 mortgage lenders.
The good news is, getting multiple refinance rate quotes won’t hurt your credit score.
As long as you get all your quotes within a few weeks of one another, they count as a single inquiry on your credit report. So don’t let credit worries stop you from shopping around and finding the best rate.