Refinancing can lead to lower interest rates and lower monthly payments, but can it lead to lower credit scores? Maybe, maybe not. Whether you're still trying to decide whether to refinance or it already happened, it's important to remember that the story doesn't end after you close your loan. Let's talk about what could happen to your credit after you refinance.
What is refinancing?
Refinancing means that you pay off your current loan with a new one. People typically choose to refinance in exchange for a loan with better rates that'll lower their monthly payments and save them money on interest and fees over time. Many types of loans have refinance options, including mortgages, auto loans, student loans and personal loans.
Potential Effects on Credit Health
When you apply for new loans, including refinance loans, creditors will run your credit report, which results in new hard inquiries. Hard inquiries typically lower your credit score by a few points. In some cases, you may be able to avoid incurring several new inquiries by employing smart rate shopping tactics and getting all your applications in during a 14- to 45-day period. Depending on the scoring model and type of loan, inquiries made during this period may only count as one inquiry when your score is calculated.
If you didn't follow this suggestion when you refinanced, don't worry. In general, the influence of an inquiry on your credit decreases over time. You can gauge the impact of hard inquiries on your credit score by monitoring your credit and tracking them as they fall off your report.
Refinancing will also result in your old loan being closed, and you'll start over with a new loan that has a new open date and nonexistent payment history. Some scoring models will still factor in your closed loan when calculating your average age of accounts, but if they don't, that average age will decrease. Similarly, some models will count the payment history associated with the closed account for up to ten years, but it may not be weighted as highly as if it was associated with an open account. If you had your previous loan for many years, this could feel like a sudden blow to your credit health, especially considering how heavily your payment history is factored into your credit score.
You can't exactly do anything to speed up the aging of your loan or payment history, but these factors will improve over time. (Of course, you'll have to make sure all your payments are squared away!) Your new loan will also be added to your number of total accounts, so that's a bonus.
While it's always smart to think twice and consider your credit when making financial decisions, if refinancing makes sense for your situation, go for it. In the typical case, you most likely won't see a tremendous difference in your credit health, but don't be surprised if your new loan results or has resulted in some minimal changes. As always, if any details related to your refinancing look incorrect when you view your full credit report, reach out to your creditor or file a dispute. Happy refinancing!
About the Author: Charmaine Ng is the Communications Coordinator at Credit Karma. When she isn't writing her way through life, you can find her reading about the latest in entertainment and watching television almost every night of the week. Say "hi" @noodlemaine!
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