People always seem to start talking about refinancing their home when interest rates drop. If you have a lot of debt in addition to your mortgage, and rates for refinancing go lower than the interest on your current debts, it makes sense to ask the question whether now is a good time.
But just because rates are lower doesn’t necessarily mean it’s worth doing.
There are two reasons to refinance. The first is to reduce the amount of interest that you’re going to pay in the long term. The second is to reposition the equity in your home.
Reducing the Interest
Mortgage interest is calculated as simple interest and is paid back over time. So the best way to look at it is to ask, “How much interest will I save by refinancing this year?” Or, “How much yearly interest will I save if I were to refinance?” Then you have to compare what you’ll save in interest to the cost of doing the refinance.
Find the Breakeven Point
If you look at it that way, you can create a breakeven scenario pretty easily. I advise all of my clients that if you’ll break even in two years or less, refinancing is something to consider. If your break even point comes later than two years, you probably don’t want to refinance. However, it really depends on how long you plan on being in that home.
I’ve seen many lenders sell people on saving $100 on their monthly payment. But they’re really not saving anything — all they’re doing is stretching it back out over time. Had they looked at the breakeven analysis, they would have known it was not a good deal for them. But some lender talked them into doing the refinance for just over $100 a month. All they did was lose the equity they had been putting into their home since they bought it.
No-cost Refinancing Could Be Misleading
On many lenders’ websites you’ll see “no-cost refinancing.” However, all they’re doing is rolling all of the transaction costs into the loan. Those transaction costs will be paid whenever the person sells the house or they are financed over the life of the loan. Just because you’re not paying it up front doesn’t mean it doesn’t exist.
Repositioning your Equity
You can pull money out of your home to do things like fund kids’ college or consolidate debt. Whether this is a good idea or a bad idea depends on what you’re going to do with the money. I have seen people pull money out just to take a trip. That’s not smart! I’ve seen other people greatly reduce their monthly cash outflow by consolidating some of their credit cards or paying off student loan debt.
A good lender can help you figure out how refinancing will affect your cash flow. It doesn’t hurt to ask whether now is a good time to refinance, but make sure you’ve gone over every scenario.
If you have questions about refinancing, mortgage loans, or anything else to do with home financing, hit us up. You can call 205–986–4220, connect with us on social media, or ping our website. We are happy to help you in any way we can.
— Ben Chenault,
Certified Mortgage Planner
MortgageBanc / Fairway Nmls# 2289
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