If there’s one positive in this stagnant economy, it’s that this is an incredibly good time to take out a loan. Mortgage rates are extremely low, and continue to fall. If you took out your mortgage in a better economy and aren’t enjoying the same rates, you might be tempted to refinance. There’s certainly no harm in doing a bit of research, and you may save a good deal of money. But refinancing does not come without its costs, and depending on your current situation, what looks like savings may end up as a loss. Here’s a quick look at the factors you should consider when determining whether or not to refinance your mortgage.
If you have a fixed rate mortgage, you’ve chosen what is traditionally considered the best way to go about things. A fixed rate mortgage simply means your interest rate will never fluctuate, regardless of what happens in the economy. You can count on your monthly payments staying the same. But this may be a moment when the fixed rate is less than ideal. Remember that if you refinance, you may lose that fixed rate. So look at the whole picture to determine if the savings are worth it.
Adjustable rate mortgages offer a bit of a clearer decision. If your rate has fluctuated upwards, this could be a very good time to refinance. If your rate has gone down a bit, you’re liable to find you are still paying a higher interest rate than what is currently available.
In either case, refinancing costs will be a major factor in your choice. The easiest way to determine if the costs are worth bearing is coming up with a clear plan for how long you expect to stay in your home. Remember, closing costs can easily range into the thousands of dollars, so even with a significant interest rate savings you’ll need to stay in your home for several years to break even on the transaction. Depending on your current mortgage, you may only drop 1% off the interest rate by refinancing, and that’s considered a significant change. But if you’re not planning on staying in your current home for a decent amount of time, it’s simply not worth it.
The second major factor to keep in mind is the amount of equity you have in the home. The industry standard seems to be that banks ask you to have 20% equity in the property already in order to refinance. There are occasions when you would still be approved without that much equity, but you won’t end up getting a strong enough deal to make the entire mortgage refinance process worth the effort. If it’s been years since you originally took out the mortgage, you may have a good deal more than 20% equity built up. In that case, you’ve got the best of both worlds, because you can refinance a smaller piece of the initial mortgage. The interest rate will be lower, as will your monthly payments.
Finally, consider the terms of the new mortgage. Don’t forget that once you refinance, the term of the loan will reset. If you were halfway through a 30-year mortgage and refinance, you’ll be right back at the beginning of the repayment timeframe. So remember to look at a smaller term period or an FHA streamline if you possibly can.