Refinancing is the word used in the financial sector to describe replacing an existing loan with another. Refinancing may be a good idea for many reasons – there could be loans available on the market with better terms, the borrower’s financial circumstances may have changed since taking out the existing loan, or it may be too risky or too expensive to maintain repayments on the existing loan.
Kevin Neal has experience of assisting clients to move to more favourable loan conditions, working with private buyers and football clubs to arrange cheaper borrowing and refinancing of existing debt. Whatever type of loan a borrower has, it may be worth examining whether refinancing could result in more favourable repayment terms.
Applying for Refinancing
Refinancing involves paying off an existing loan by taking out a new loan. It does not reduce the original amount of debt, but it can offer better repayment terms that reduce the total amount of money repayable or spread the cost to make repayments more affordable.
Shopping around and looking at what different lenders have to offer can mean ending up with a better loan. If the new loan is approved, it is then used to pay off the existing loan, leaving the borrower with the more favourable terms from the new lender.
Early Repayment Penalties
One key factor to consider when looking at refinancing is that many lenders will include a clause in the loan agreement that means a financial penalty is payable for repaying the loan early. If the existing loan has a prepayment penalty, the financial burden of this needs to be compared to the savings that refinancing will offer to see if it is worth changing lenders.
Debt Consolidation
One reason why people may wish to look at refinancing is for debt consolidation purposes. This is when a single loan is taken out to pay off a number of existing debts, leaving the borrower with one single payment. This may involve taking longer to pay off the debt, but can result on lower monthly payments, so this is often a good solution for those who are currently in financial difficulty.
Collateral
In cases where the original debt is secured, the asset put up for collateral may still be required to be able to secure a new loan. This means that the house, car or other asset used as collateral is still at risk of being repossessed if the repayment terms of the new loan cannot be met by the borrower. This is not the case if the new lender allows for an unsecured personal loan to replace the previous car or home loan, as no collateral is required for this type of loan.
Advantages
There are several potential advantages to refinancing, with the circumstances of the borrower dictating which benefits are the most advantageous. Refinancing can result in lower interest rates which reduce the total amount repayable, so long as any prepayment penalty does not wipe out the potential savings.
Refinancing can also be used to change the length of the loan term. A shorter-term loan results in less money repayable in total, while a longer-term loan might reduce the amount of the monthly payments.
Refinancing may also be used to change the type of loan, such as moving from a variable rate loan to a fixed rate loan with better protection against future increases in rates.