June 24, 1999, Revised December 1, 2006, June 27, 2007

"I am planning to shop for the best deal on a refinance. Should I shop my present lender first?"

No, shop your present lender last. Shop other lenders first, then challenge your lender to beat the best deal you find elsewhere. Your present lender may be in a position to waive some settlement costs because you are an existing customer, but you won't know if you are getting the benefit of this unless you shop elsewhere first.

Lender Ambivalence Toward Refinancing Their Own Customers

In a refinance market, lenders are conflicted with regard to how they treat their existing borrowers. They don’t want to encourage any of their borrowers to refinance who might otherwise not get around to it. On the other hand, if they know that a borrower is going to refinance regardless, they want the new loan.

To keep loans that might otherwise get away, many lenders have "retention" programs. These programs are designed to recapture borrowers who are determined to refinance, without putting any refinance ideas into the heads of other borrowers. Distinguishing the two groups is not easy, but there are ways.

For example, if you call your lender to find out the exact balance of your loan and your lender has a retention program, you will quickly receive a call from its loan origination department offering to refinance your loan. A balance inquiry usually means the borrower is looking to refinance.

Advantage of Refinancing With Your Current Lender

The lender to whom you are now remitting your payments may be in a position to offer you lower settlement costs than a new lender, but this can vary from case to case.

The greatest potential for lower settlement costs arises where the current lender was the originating lender which still owns your loan, a common situation with loans made by banks and savings and loan associations. If your payment record has been good, the lender may forgo a credit report, property appraisal, title search and other risk control procedures that are otherwise mandatory on new loans. This is strictly up to the lender.

Indeed, if you are not looking to take any cash out of the transaction and are looking only to reduce the interest rate, the lender may elect simply to reduce the interest rate on your current loan rather than refinance. This avoids all settlement costs except a small fee for changing the contract.

If the lender to whom you are now remitting your payments is the originating lender but no longer owns the loan, the potential for lower settlement costs is less. In this case, your lender does not have the same discretion to forego settlement procedures but must follow the guidelines laid down by the owner of the loan.

If the loan had earlier been sold to one of the Federal secondary market agencies, Fannie Mae or Freddie Mac, the guidelines are theirs. While both agencies have provisions for "streamlined refinancing documentation", the discretion granted the lender, and therefore the potential cost savings, is quite limited.

The potential for lower settlement costs is least when the lender to whom you are now remitting your payments is neither the originating lender or the current owner. This is a fairly common situation that arises when the contract to service the loan is sold. In this case, your lender may not be in a position to use all of the streamlined refinancing procedures because its files do not contain some of the information those procedures require, such as the original appraisal report.

Disadvantages of Refinancing With Your Current Lender

When lenders take the initiative in soliciting their own customers, they may base their offer on the borrower's existing rate. This means that in a 5% market, the borrower with a 7% mortgage might be offered 6% while an otherwise identical borrower with a 6% mortgage might be offered 5.5%.

The goal of the existing lender is to provide an attractive saving over the existing loan while giving up as little as possible. Potential new lenders try to do this as well, but they don't know what your existing rate is unless they dig for it in the county courthouse, or purchase it from a lead generator who induced you to disclose it.

In addition, you may not get the best service from your existing lender, as illustrated by this letter.

"I filled out all the forms to refinance my loan [with the existing lender], paid the $350 lock-in fee, provided all the documents they asked for...But it is now 4 months and still it hasn't closed...I call the person in charge of my refinancing, and he says he will get back to me, and he never does... What do you think could be the problem?"

The problem is that the lender already has a loan at a higher rate, and has no incentive to close the new one. While it probably is not deliberate, in a refinance boom lenders get behind in loan processing and have to set priorities. If they have to choose between processing a loan they will likely lose if they don't get it done quickly, or a loan they can't lose because they already own it, the choice is all too easy.

Finally, when you borrow from your existing lender, you do not have a right to rescind within three days of closing, as you do in all other refinances. This could be critically important. See Rescinding a Mortgage Refinance.

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The greater the potential for lower settlement costs from dealing with your present lender, the more likely that that lender can offer you the best terms. Which doesn't necessarily mean that it will. The reason for going to your present lender last is to make sure that you receive the benefit of any cost reductions. Remember, mortgages are a big-ticket item and the terms posted by lenders are not engraved in stone. Do not be afraid to haggle.