What is refinancing?
When an old debt is paid off with a new loan, the process is known as refinancing. By acquiring a new debt obligation with different conditions, you are essentially exchanging one debt obligation for another. Different strategies apply when refinancing a home, car, school loan, or personal loan. This is not a choice to be made flippantly.
How does refinancing affect your credit score?
At first glance, refinancing may seem like a fantastic idea, but how does it damage your credit score? Your credit score can drop momentarily if you refinance. Two of the most important loan-related factors that affect credit ratings are credit inquiries and changes to loan balances and terms.
1. Credit inquiries
Lenders will check your credit history and score thoroughly before approving a refinance. Inquiries into your credit report cause a temporary drop in your credit score. Applying some savvy rate-shopping strategies could save you from having to field numerous additional questions. The best time to submit your applications is between 14 and 45 days before the deadline. Keep in mind that your credit scores may only reflect a single inquiry if you’ve had many inquiries within a 14- to 45-day time frame.
2. Adjustments to loan balances If your refinanced loan does not report to the credit bureaus, the changes to your loan balances and conditions will have no effect on your credit score. A lender may record this transaction as a continuation of the original loan with modifications, or as a new loan with a fresh start date. The impact on your credit score may be greater if the money you borrow through refinancing is counted as a brand-new loan. This is because the credit score reacts more strongly to a new credit obligation than to a simple change in the loan’s terms, and a new or recent open date usually suggests it is a new credit obligation.