Between politics and pandemics, mortgage rates have fallen and refinances have been booming with more room to expand.
Close to 18 million homeowners could potentially cut their mortgage’s interest rate by 0.75% or more, according to mortgage analytics company, Black Knight. That surpasses the 3 million homeowners who refinanced the first half of 2020.
Mortgage rates decreased to a record low territory this summer and fall. “The average interest rate on the 30-year fixed-rate mortgage has been under 3% since early September, according to NerdWallet’s daily rate survey” (Nerd Wallet, 3).
If you aren’t sure if now is the right time to refinance, ask yourself the following four questions.
1. What’s my goal?
What would you like to accomplish by refinancing? Identifying your goal for refinancing points you toward the right loan.
These are three common refinancing goals:
- To reduce the monthly payment. For this refinance, it is quite simple Apply to a loan of the same term – another 30-year loan, if that’s what you have.
- To pay less interest. When you refinance a 30-year mortgage into a loan with a shorter term, your monthly payments are likely to increase, but you’ll pay less interest over the duration of the loan.
- To get cash. A cash-out refinance allows you to borrow more than you currently owe and take the difference in cash. Cash-out refinance is a common way to pay for home renovations.
2. Is my goal attainable?
Once you’ve identified your goal, figure out if it is realistic.
If the goal is a smaller monthly payment, ask yourself how long you will remain in the home. The answer is important because when refinancing, you’ll lose money if you sell the home before reaching the break-even point. The reason for this is because when you refinance, you pay hundreds-thousands of dollars in closing costs. You want to keep the loan long enough for the savings to exceed the cost, which may take a few years.
3. If the goal is to pay less interest, are the long-term savings worth the bigger payment?
If you shorten the loan term, you will most likely end up with an increased monthly payment. In case of a financial emergency, what will happen? Will you still be capable of making the monthly payment? If you have doubts, it may be safer for you to refinance for the same term as the current mortgage rather than a shorter one and pay extra principal each month. You will still have the benefit of paying it off more quickly, but you can stop making the excess payments when money is scarce.
If the goal is to get cash: Do I have enough equity? In most cases, you’ll be able to borrow up to 80% of your home’s value, meaning that if you currently owe 70%, you will be able to cash 10% out of it. Determine your home’s current value and multiply it by 8% to determine the amount you’ll be able to borrow. Ask your lender how much you owe on the mortgage right now or check a recent statement. You’ll be able to cash out the difference between what you owe and 80% of the home’s value.
How will the new refinancing fee affect me? Despite an adverse market refinance fee, the door remains open for refinancing. While frustrating, the fee on interest rates is too small to erase the savings that most would attain by refinancing. Fortunately, the adverse market refinance free doesn’t apply to every loan, only conventional mortgages. If you plan to refinance into a jumbo loan or a mortgage supported by the Federal Housing Administration, Department of Veteran Affairs, or the Department of Agriculture, the fee will not be imposed. Those loans accounted for about one-third of the mortgages taken in the second quarter of 2020. The other two-thirds were securitized by Fannie Mae and Freddie Mac, who imposed the raised interest rates on refinances by about one-eighth of a percentage point. Although, there are a few exceptions on the fees: The fee won’t be imposed on refinances of $125,000 or less, construction-to-permanent loans, or HomeReady and Home Possible mortgages, which have income limits.
The fee goes to Fannie and Freddie from the lender, and is unlikely to appear on your Loan Estimate paperwork; It is probably included in your interest rate.
If you’re planning to refinance in order to reduce your monthly payment, the adverse market fee is important to acknowledge because the higher interest rate will push the break-even point back a few more months.
When refinancing for a shorter term, the interest savings quickly overshadows the slight increase on rate.
If you’re attempting to go for a cash-out refinance, the goal is to get cash rather than saving money, so the fee does not impact your decision.
4. Are there alternative ways to reach my goal?
While reducing your mortgage interest rate is great, there are other ways to attain your set goals if refinancing isn’t right for you.
- To decrease your monthly house payment without refinancing, you could look for a less expensive homeowners insurance
- If you are looking to pay less interest over time, you could pay extra principal monthly. By doing so, you could accelerate the payoff date, reducing the total interest paid on the loan.
- Instead of a cash-out refinance, you could keep your mortgage and get a home equity line of credit or home equity loan. These loan products will most likely have higher interest rates than you can get with a cash-out refinance, but will still give the option of paying them off sooner than required.
After asking yourself these questions, you’ll be able to identify more confidently what decision is best for you.
This blog post was written by Krista Pham, our intern.
The article that inspired this piece can be found, here.