Here are four more questions to ask yourself before you take the leap. Look them over to get a sense of whether or not refinancing is the right move for you.
What are the benefits of refinancing?
Most people would agree that it only makes sense to refinance your mortgage if there is some tangible benefit to doing so.
Before you start the refinancing process, it’s important to root out what your specific benefits will be, as well as how great the ultimate payoff to refinancing will be.
In general, there are three major benefits that people see from refinancing:
A lower monthly payment: Though interest rates are higher now than they’ve been in the recent past, they’re still relatively low from a historical perspective.
If you took out your mortgage prior to the financial crisis of 2008, you’ll likely still be able to refinance at a much lower interest rate, which will lower your monthly payment.
A different loan term: Even if a lower interest rate is not an option, you can also lower your payment by spreading your current loan balance -which is presumably less than the original – over a longer term.
Alternatively, you have the option to shorten your loan term and pay it off faster. Though this will likely raise your monthly payment, if you have more income than you did when you first applied for the loan, it could be a shrewd move for your financial future.
Cashing out your home equity: With a cash-out refinance, you refinance your home for more money than you currently owe on the property. The excess is given to you in the form of funds to be used however you wish.
The best way to find out how much of a benefit you could get from refinancing is to talk to a lender. He or she can look at the details of your financial situation, as well as the current mortgage landscape, in order to help you determine whether or not refinancing is right for you.
Where is my break-even point?
In addition to focusing on what the benefits to refinancing will be, you also need to take a long, hard look at how long it will take you to see them come to fruition.
The reality is, refinancing isn’t free. Just like when you first took out your mortgage, you have to pay closing costs in order to receive your new loan. These fees can often add up to thousands of dollars.
With that in mind, it’s important to look at how long it will take you to break even on your refinance, or how long it will take you to recover the cost of those fees and truly start to see savings from your new loan.
To calculate your break-even point, divide the total sum of your closing costs by the amount that you are saving each month from the refinance.
The resulting number will correspond to the minimum number of months that you need to stay in the home in order to see a tangible benefit from refinancing.
However, you’ll want to make sure that you plan to stay in your home for much longer than that in order to really start to see the benefit of that savings.
How much equity do I have in my home?
For a refresher, equity is the percentage of your home that you own outright or the percentage of your home that is not currently mortgaged.
As you pay down your loan, your equity grows. When you go to refinance, you’ll likely face specific equity requirements.
Typically, lenders will expect that you retain at least 15%-20% equity in the property. (Though, it is possible to find lower options.) Lenders prefer that you maintain equity in the home because it means that you retain a stake in the property and have an incentive to keep making payments on your loan.
Finding how much equity you have in the property is easy. All you need to do is take the current value of the property – which you can find by having an appraisal done or having a real estate agent conduct a comparative market analysis – and subtract the amount you owe in your mortgage.
Does my old mortgage have a prepayment penalty?
Though it may seem unfair, sometimes mortgages come with penalties for paying off your loan early (and essentially denying the mortgage company the income they would have made off of your continued interest payments).
The exact penalty will vary by company, but according to a refinancing guideby the Federal Reserve Board, it usually ends up being one to six months worth of interest payments.
Your first step should be to read over the terms and conditions of your current loan to see if you’re subject to these penalties. Then, if so, to factor those fees into your cost calculations for your break-even point.
That will give you a clearer idea of whether or not refinancing makes fiscal sense for you at the moment.