How Much Will You Save by Refinancing Your Mortgage Loan?
Are you thinking of refinancing your home? Use this calculator to discover how much you can save today.
Refinancing is the process of paying off your old loan in order to create a new one with more favorable terms. It can be an easy way to restructure your home cost with a lower interest rate and payments, or it could be a recipe for disaster.
The more you know, the easier it is to decide if you're a good candidate.
What Is Mortgage Refinancing?
Let's start with an example. Mr. Smith, who has excellent credit and always pays on time, is sick and tired of his variable rate.
He signed up for an adjustable rate mortgage (ARM) at a volatile time in the real estate market, when it looked like the rates would ebb slowly.
But it didn't, and Mr. Smith knows he can negotiate a better deal than the one he's stuck with right now, and hopefully get himself into a fixed-rate mortgage (FRM) with a low rate for the rest of his term.
How To Refinance Your Home
Mr. Smith can even choose to embark on a new mortgage with a longer duration in order to stretch out (and lower) the payments over a longer period of time. He can pay off a 30-year after 10 years, and begin a new one that spreads the remainder of his debt over the next 30-years. You don't need a calculator to see how that reduces your monthly contributions significantly.
So Refinancing is a Good Thing, Right?
Not necessarily. If you know what you're doing, refinancing can be an attractive option, and a way to juggle your debts in order to reduce them. But you really need to know what you're doing, and you need a firm understanding of the mortgage industry.
Refinancing is a viable option if you have equity on your home, which is the difference between what your home is worth and how much you still owe on it. A quick look at what it can achieve:
- Reduce your monthly payments, freeing up more of your income for other pursuits
- Allow you to take cash out of your home to make a large purchase
- Give you the opportunity to change loan servicing companies
What Are The Benefits?
If you pay your bills on time, and don't live beyond your means, you are rewarded with an increase in your credit score. With better credit, you are able to obtain credit cheaper, often much better the rates you were offered when you first took out your mortgage.
Why not take advantage of this higher credit score? After all, you've earned it. A lower rate, even by a fraction of a percent, can translate into yearly savings of thousands of dollars.
Another good reason to refinance is cash — cold hard cash. Many homeowners take equity out of their home in order to have a lump sum of cash.
This can be used for anything, of course, but should be used for sensible debt reduction like extinguishing credit card debt or other obligations. On the other hand, a refi could be the answer to your dreams, if your dreams involve buying a monster RV, or taking an extended vacation in Aruba, or even converting your basement into a Bitcoin mining sub-station. Such vacation or consumption splurges can be far more expensive than the upfront price tag, as you'll be paying interest on that debt for many years to come.
The amount of equity you can extract is determined by
- getting your home appraised;
- having a lender decide how much they are willing to lend; and
- subtracting what you still owe on the original loan.
If you have made improvements to your home, you will find that your house is worth more than when you bought it, and you can obtain more equity.
What Are The Risks?
The first concern is that you may incur substantial penalties, because most agreements include a provision that allows the lender to charge you a penalty fee for paying off your mortgage with the equity in your home. If your lender charges a penalty, be sure to factor these costs into the equation when deciding if refinancing is worth it for you.
Other costs include attorney fees for the complicated paperwork, and inspection fees for a new appraisal.
One risk you can avoid is the arbitration process, which allows the lender to bring in a third-party negotiator who can seriously undermine any rights you have as a consumer. Never agree to arbitration.
Of course, you're always at risk from unscrupulous lenders who are anxious to put you and your equity into a high-interest loan. When you're looking to refinance, the sharks will appear out of nowhere.
Brokers typically get larger commissions for selling more profitable products. Some go so far as represeting variable rates as fixed & hiding other junk fees and timebombs embedded in the small print.
Don't be hasty, or believe everything you hear, when you're in the market. It's best to take your time, compare lenders and deals, and base your decision on facts and figures - with the help of the above calculator.
When Is The Best Time To Consider It?
Once you decide refinancing is right for you, remember the old adage, "Timing is everything."
Generally, you should consider doing it only after you've decided you're going to stay in place for a while. It doesn't make sense to refinance a property unless you plan to stay put. The main reason is escalating closing costs, now up to $4,000 for the average borrower.
If you don't stay long enough for the lower monthly mortgage contributions to offset the closing costs — why bother?
However, if you plan to stay for the long haul, and you see appealing interest rates, refinancing is a sensible way to put some money in your pocket while you continue to pay off your house.