06/26/2013 05:20 pm ET Updated Aug 26, 2013

Are You Missing Out on $57,730? Why You Should Refinance Despite Tighter Lending Guidelines

We recently analyzed our Credit Sesame user data and found that, on average, homeowners who would qualify for refinance rates based on their credit profiles, income and home equity could save $5,773 annually with lower mortgage payments. That amounts to $57,730 over the course of 10 years. Even more amazing, if that $481 in monthly savings were invested in mutual funds returning an average of 8% annually, over 10 years that would amount to $88,000!

But despite significant potential savings and historically low-interest rates, consumers are reluctant to take the refinance plunge. We believe there are several contributing factors:
  • Lenders have tightened their underwriting guidelines since the real estate crisis and it is more difficult to get a mortgage.
  • Many consumers believe that lending standards are too rigorous and they won't qualify, so they don't even apply.
Here are some common assumptions consumers may have about lenders' guidelines that are preventing them from taking advantage of refinancing.

Common Refinancing Assumptions

I'll need to provide a ton of documentation
Although stated (self-reported) income mortgage products are no longer available, lender documentation requirements haven't changed all that much in the past 10 years. Tax returns are still only required if a borrower is self-employed or has an income that can only be properly documented with tax returns (e.g.; rental income).

My credit has to be perfect
There is no question that lending standards have tightened, but lenders are still able to work with customers who have less-than-perfect credit. You'll likely pay a higher rate or fee if you have a lower credit score. The minimum credit score for most lenders remains at 620. But you'll find that credit score requirements can vary from lender to lender, so it's good to shop around.

I'm underwater so I'm out of luck
Appraisal standards have tightened, and real estate markets haven't fully recovered. However, there are programs that allow consumers to get a loan even if they're underwater, such as HARP and FHA Streamline Refinance. Although these options are available, consumers may not know about them, or if they do, may have difficulty finding a lender that supports them. Consumers also often find that typical online mortgage search tools aren't helpful, either, as they track a minimal set of guidelines. However, Credit Sesame incorporates lenders' full guidelines and can tell you if you're pre-qualified.

I have gaps in employment
In the past few years, many Americans have faced periods of unemployment. Lenders will typically only be concerned with employment gaps in the past two years lasting longer than one month. If you're a salaried employee, lenders may still be okay with periods of unemployment up to six months, as long as you can establish that your income is likely to continue at current levels. How is that determined? Lenders will look at your employment history prior to your gap and will want to see that your current employment is in a similar or related field. They'll also want to know that your new job is stable. A good rule of thumb for stability is that you've been on your current job for at least as long as the period of time that you were out of work.

My self-employment is a problem
With the unemployment rate slow to improve, many Americans have taken on consulting or contract opportunities to make ends meet. While it's true that lenders will consider you self-employed and require more paperwork as a result, you very well may still be able to qualify for a mortgage. For the self-employed, lenders typically want to see a two-year history of stable self-employment income and will average your income for qualification. If you have less than two years of self-employment you might want to consider an FHA loan. For FHA, you can qualify with as little as one full year of self-employment, as long as you can establish that your new business is in a similar line of work as your prior occupation.

I've been declined, so I just gave up
Remember that underwriting guidelines vary widely from lender to lender and getting a loan declined from one doesn't necessarily mean you won't get approved by another. If you are denied, be up front with the next lender regarding the reasons you weren't approved. You may need to speak to multiple lenders to find the one that's right for your situation.