October 2020
Financial Planning

Interest rates continue to hover near historical lows, so it’s not too late to lock in a lower mortgage payment for potentially the next decade or more. But a mortgage refinance isn’t necessarily the right choice for everyone. You’ll need to consider a number of variables, and it’s important to understand how the process works, as well as the numerous pros and cons. 

What are the benefits of refinancing? 

There are many benefits to refinancing, but they will vary based on your current situation and financial goals. Typically, the number one benefit is saving money, but there are many others as well. For instance, with a refinance you can potentially get a better interest rate, lower your monthly payments, shorten the length of your loan, build equity faster, consolidate other existing debts by combining them all into a new mortgage, get rid of your mortgage insurance (if you’re refinancing for less than 80% of the value of your home) or even remove a person from the mortgage. 

What are the risks of refinancing? 

Although there are many benefits to refinancing, it isn’t right for everyone. As with any financial transaction, you’ll want to make sure the math works in your favor. Normally, you’ll be charged closing costs to refinance. These costs can often be folded into your new mortgage, but doing so will add to your monthly payments. Therefore, you’ll want to fully understand these charges and take them into account to ensure that your monthly savings from a refinance will more than offset the costs. 

To calculate how long it will take before the monthly savings from your new mortgage outweighs its closing costs (the “break-even” point), use a refinance calculator and enter the basic information about your current mortgage and the new mortgage. If you find that the break-even point on your new mortgage is 7 years, but you only plan on staying in your house for another 5 years, then refinancing might actually be more costly than just keeping your current mortgage, even if its interest rate is higher. 

You’ll also want to keep the length of your new mortgage in mind. All mortgages are designed so that you’re paying more interest than principal in the first half of the mortgage. That means if you’re starting a new mortgage with a refinance, you’ll be paying the bulk of the interest again at the top after previously paying the bulk of the interest in the first years of your old mortgage. 

For example, if you currently have a 30-year mortgage and you’re halfway through it, but then you refinance into another 30-year mortgage, you’ll ultimately be paying interest on your mortgage for a total of 45 years. Even if your monthly payments are less with a refinance, your overall interest paid would likely be significantly higher. If you’re already more than 10 years into a 30-year mortgage, you’ll want to opt for a shorter length when you refinance. A 15 or 20-year mortgage will prevent you from having to pay a lot in extra interest. 

Understanding the basics will help you make the best decision on whether a refinance makes sense for you. You’ll want to not only look at the current interest rates and closing costs, but also think about your personal situation and your financial goals. If you would like to see how a mortgage finance would impact your overall retirement goals and cash flow, give us a call at the office to review your plan!. 

If you have questions, please contact us.

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