When refinancing a mortgage, smart people can do stupid things.
But smart people can also get informed and avoid costly errors.
Here are five stupid
refinance

mistakes and the smart ways to avoid them.

1. Assuming your home’s value hasn’t dropped

Why it happens: Homeowners especially can be over-optimistic
(even delusional) about home values.

A recent study concluded that homeowners consistently
overestimate the value of their property by 5 to 10 percent, and
those who bought at the height of the market are most likely to
make this error. Even in neighborhoods where every third home is in
foreclosure, some residents don’t see the connection between their
neighbors’ home equity erosion and their own. This causes them to
waste money for appraisals when they haven’t a snowball’s chance in
hell of getting a refinance.

How to avoid it: You
can

handle the truth! Check several online valuation systems to get a
possible range of values for your home. Request the opinion of a
real estate agent who sells a lot of homes in your neighborhood.
When considering a
refinance

, know what value you need to conclude the transaction and then
determine how likely your home is to appraise at that value.

2. Refinancing with your current lender without rate
shopping

Why it happens: Because we’re slackers when it comes to not-fun
things like mortgage shopping.

Retention strategies are programs designed to recapture
customers considering a refinance without putting silly ideas into
the pretty little heads of other customers. Inquiring about your
mortgage balance can trigger a call and a refinance offer from your
lender. It can tempt you to take a higher-than-market mortgage rate
by making it easy with a pre-approved or streamlined process.

How to avoid it: Your lender is not your friend–don’t assume
that it’s giving you a special deal. Compare your lender’s quote
with others–see what rate you’d qualify for at the same costs as
your lender’s offer, and get these quotes in writing. If you can do
better elsewhere, inform your lender and you may be offered a
better deal–or refinance elsewhere for a lower rate.

3. Skipping your mortgage payment during escrow

Why it happens: We hear what we want to hear.

Well-intentioned advisors like
this guy

who recommends applying for a
refinance

, skipping your payment, and spending it on Christmas gifts(!), can
make you think that there is some kind of fabulous free lunch
associated with mortgage refinancing. However, if your new loan
closes late, the missing payment could end up on your credit report
and even increase your refinance rate. That could give you a nasty
case of indigestion.

How to avoid it: Make your mortgage payment on time (or even
early if you don’t do it online) each month until your refinance
has closed. If you overpay your old lender, the money will be
returned to you. Understand that refinance transactions may take
longer than purchases because lenders give purchase mortgages
priority.

4. Making purchases on credit

Why it happens: Spending money feels awesome! But it
shouldn’t–Matt Hackett, an underwriting manager with Equity Now,
explains.

“Most lenders pull a ‘no score report’ or a ‘soft pull’ which
does not show credit scores, but shows any updated balances,
payments, and/or new accounts which have been opened since the
original credit inquiry.”

This report can kill a refi.

“If there are new inquiries or accounts, the borrower will have
to explain them and the loan will go back to underwriting,” says
Todd Huettner of Huettner Capital. “At a minimum, this could cause
delays. If a new account exists, then it must be documented and the
liability must be included in the debt-to-income analysis.”

Borrowers’ errors can be costly.

“They will save $100 on a new TV if they open a store credit
card but wind up paying thousands more on their refinance,” says
Huettner.

How to avoid it: Certified Mortgage Specialist and author of
Stress Free Mortgage

Linda Fleischmann says, “I make sure that my clients are very aware
of the ‘do not apply for new credit’ rule as well as having them
call me prior to making any large purchases.” So hide your credit
cards and don’t give your Social Security number to anyone until
your mortgage refinance is closed and funded and you hear the fat
lady singing.

5. Overestimating self-employment income

Why it happens: We equate income with winning and we don’t want
to be losers. Everyone has a friend who always comes back from
Vegas claiming to have “won” thousands. And he did win, if you
ignore the losing hands!

New business owners tend to do the same thing, counting the
revenue (winning hands) while disregarding expenses. Borrowers who
gross $10,000 a month might list that figure on their refinance
application, but lenders look at tax returns. Many applicants find
that the $10,000 a month they claim in earnings becomes $2,500 a
month when mortgage underwriters get through with it.

How to avoid it:

Understand how lenders evaluate your income. At its simplest,
self-employment income for mortgage lending purposes is your
taxable income plus depreciation and home office expenses. Lenders
use Fannie Mae form 1084, Cash Flow Analysis, to calculate it.

Before refinancing, make a more realistic estimate of
self-employment income and run it through a mortgage
prequalification calculator to see if you earn enough to get
approved. And know that underwriters don’t think you’re a loser
even if they do cut your income.

So, no matter how smart you are, know that everyone is capable
of making a dumb refinance mistake. But if you follow these five
rules, you’ll have the best shot at a seamless refinance.