When to Refinance Your Mortgage (4 Factors to Consider)

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when to refinance your mortgageIf you’re looking for ways to reduce your monthly expenses and free up more cash for other things, the first option to consider is refinancing your home loan. In this article, you’ll learn 4 factors or indicators that will help you to assess if and when to refinance your mortgage.

 

1. A big fall in interest rates

The common wisdom is that if existing mortgage loan rates in the marketplace are 2 percentage points or more below your current rate, then the decision to refinance should be a no-brainer. But a 1 percent drop in rates could make sense as well. You’ll have to look at how much you’re refinancing, closing costs and fees, and how much your payments will be lowered.

But just to give you an idea, let’s work through the numbers. Here’s a home mortgage calculator that you can use if you want to follow along…http://www.mortgagecalculator.org/

For a $150,000 home mortgage loan that has a 6% interest rate and financed over 30 years, you’ll pay $173,757 in total interest. If the interest rate falls to 4%, you’ll pay $107,804 over 30 years. That’s a difference of nearly $67,000. You could expect your mortgage payment to drop by almost $200 per month. So, it’s definitely worth your time to crunch the numbers.

2. Length of the mortgage

In the above example, I used a mortgage period of 30 years, and the potential savings were quite obvious. So, it’s an easier decision to refinance if you have 26 years left on your mortgage and you’re thinking of refinancing it for 30 years.

But what if you only have 6 or 7 years left on your mortgage? In this instance, it might not be worthwhile to refinance even if rates drop by a couple of points. First of all, you may want to just pay off the loan because at this point you’re mostly paying down the principal. Second, you’ll have to weigh out-of-pocket costs associated with getting the loan versus the reduction in monthly payments.

3. Type of mortgage

When seeking to refinance a mortgage, the most common term lengths are 30 years and 15 years. With a 15 year mortgage, your total interest costs over this period will be much lower and you’ll pay off the loan faster. However, your monthly payments will be higher.

For example, let’s examine what your mortgage payments would look like if you financed $200,000 over 30 versus 15 years. If the interest rate is 4.3% on a 30 year loan, your monthly payments would be approximately $1,302.

Now, mortgage rates on 15 year mortgages tend to be a little lower. So let’s use a rate of 3.4%. In this case, your monthly payments for the same loan amount would be around $1,732. That translates into a higher monthly payment of $430.

So, if you can handle the higher payments that come with a shorter loan period, you’ll save a big chunk of money.

4. Closing costs and fees

These are the standards costs that banks charge to provide and process the mortgage loan. You’ve probably heard of things such as loan origination fees, appraisal fees, document fees, etc. Banks will try to throw in the kitchen sink. So, you’ll have to tally up their long list of fees and acquisition costs and include them in your decision making process.

But keep in mind these cautionary words about home mortgages and loan costs:

– Not all banks charge the same amount for closing costs. So don’t feel compelled to work with your current mortgage banker. Shop around until you find a deal that you like. If you have excellent credit, you’ll be in the driver’s seat.

– Just because your mortgage payments are as low as they can be with a refinanced 30 year mortgage, that’s not necessarily a great thing. You’re still going to pay a lot of money in interest costs and you’ll be building equity in your home at a snail’s pace.

– You may be very tempted to roll your closing costs into your mortgage loan, rather than paying them upfront. And banks generally don’t have a problem at all with you doing this. That in itself should be a red flag. The reason banks love it is because you’ll be paying interest on those costs for the next 15 or 30 years. So don’t do it.

So now you know when to refinance your mortgage. This is probably the biggest way to save money and improve your financial situation. It’s an opportunity to significantly reduce your monthly payments and erase many thousands of dollar that would have otherwise paid in interest costs over the long term. Just sharpen your pencil and see what the numbers say. You may uncover a favorable scenario that has you jumping for joy!