Refinance lending took off not too long ago, as interest rates fell to historic lows.

Even as interest rates creep up, many homeowners can still benefit from a refinance loan by lowering their interest rate and saving money over the long haul.

A loan modification is yet another option for homeowners.

In today’s market, it’s important for homeowners to know the difference between a refinance and modification. Read on to learn more about both programs and when each one should be used.

Refinance basics

In the simplest terms, a refinance loan is a total loan replacement for an existing loan.

Homeowners can swap out the terms of the loan, including a lower interest rate, for a new one through a refinance loan. Homeowners can also change the terms for quicker amortization.

A refinance is a new loan to pay off an existing mortgage debt, but it has other uses too.

Loan modification

Conversely, a loan modification is a partial replacement of a loan. While it is not a wholesale change, a loan modification can help homeowners achieve a lower interest rate.

But, there’s a major characteristic that distinguishes a loan modification from a refinance loan, as you’ll see below.

Why homeowners refinance

There are several reasons why homeowners decide to apply for a refinance loan.

They can modify the terms of the loan, reduce the interest rate, switch from a fixed rate to an adjustable rate, or vice versa, change loan types, eliminate mortgage insurance, receive a cash-out loan and consolidate debt.

As you can see, a home refinance is a versatile financial tool with plenty of benefits.

Why homeowners modify loans

A loan modification is restrictive. So, homeowners will pursue this option under limited circumstances.

The menu of options includes changing the loan terms, reducing the interest rate, switching adjustable or fixed rates and requesting principal forbearance.

Loan modifications are suitable for homeowners facing some hardships. In order to get approval, homeowners will provide documents to prove their hardships, which can hinder their ability to make good on the monthly payments.

While both programs accomplish similar goals, a loan modification can help homeowners get through more difficult times. A refinance loan is a transition into something better.

When homeowners refinance their home, they can alter their financial trajectory to their advantage. For example, a lower interest rate can translate into lower monthly mortgage payments. Over time, the savings can add up to tens of thousands of dollars.

A refinance is also a ticket to financial nimbleness. Homeowners with equity in their homes can apply for a new loan that also carves out room for a cash-out financing. Paying for the cash-out refinance will be included in the new monthly mortgage payment. In return, homeowners can use the money from a cash-out refinance to make big-ticket purchases, do home improvement projects or to consolidate debt and expand their financial horizons.

PMR is not affiliated with or an agency of the federal government. All opinions expressed by the loan officer, are the loan officer’s opinions, and do not reflect the opinions of PMR.