Refinancing
When the real estate market appreciates, and when interest rates are low, the term “refinancing” will start to surface. Refinancing a mortgage describes paying off one mortgage and replacing it with another one, typically one with better terms. The process of refinancing is similar to the process of taking out the original mortgage, but in this case, your new lender will pay off the balance of your old mortgage and you will start over with the new, refinanced mortgage. Borrowers must meet the lender’s requirements; they must have good credit, be able to prove steady employment and reliable source of income and have no overdue payments on their current loan.
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When it Makes Sense to Refinance
There are two main reasons people choose to refinance; to lower their monthly mortgage payments and to pull cash equity out of their home. Refinancing a home mortgage is generally a good idea when:
- The homeowner can secure a lower interest rates than they have on their current loan.
- The property has appreciated, or the homeowner has built up considerable equity and wants to take cash out against it.
- The homeowner wants to consolidate multiple loans into one loan.
- The homeowner wants to change the length of the loan. It is common to refinance to a shorter loan (10 or 15 years) because they will generally have lower interest rates. But another option is to refinance at a low interest rate and extend the length of the loan. This is appealing option for those who are willing to trade a longer term for a lower monthly payment.
The Cost of Refinancing
Determining whether to refinance comes down to math. Refinancing at a lower interest rate isn’t always cheaper than keeping your original loan. There will be an application and appraisal fee required with the new loan. The lender will also often charge points (one point usually is equal to about one percent of the total loan value) on top of the loan. Paying points to refinance at a lower rate is often called “buying down a loan.”
To determine if refinancing will be more affordable in the long run you should ask these questions:
- Is there an early payoff penalty on your original loan?
- How much interest are you paying each month on your current loan?
- How much will the refinancing cost?
- How much interest would you pay each month with the new loan?
- Will you be able to recover the cost of adding points to a new loan before the loan is paid off? For example, if you pay $5000 to buy down the loan and your mortgage payment is reduced by $100 a month, it would take 50 months to break even on the new loan.
