Refinancing makes financial sense only when doing so gives people financial flexibility or saves them money. Before determining whether you should refinance your home loan or not, let’s find out what refinancing a loan actually means.
Refinancing involves replacing an existing loan with a new one, under different (and often better) terms. Though there are many reasons for refinancing a home loan, the most common ones include getting a lower interest rate, reducing monthly payments, adjusting the length of the mortgage, converting from an adjustable-rate to a fixed-rate mortgage and consolidating multiple debts into one loan.
If you intend to refinance your home loan soon, below are three situations in which refinancing can offer real benefits.
- When you want to lower your interest rate and monthly payment – Refinancing provides an opportunity to secure a lower interest rate and monthly payment. As a general rule, an interest rate reduction of at least 1 percentage point makes refinancing worthwhile. If we take, for example, a 30-year fixed-rate mortgage on a $100,000 home, with a 20-percent down payment and a 6.5-percent interest rate, the borrower will have to pay $609.82 a month. A 5.5-percent interest rate will lower the monthly payment to $558.40, which means a difference of $51.42 a month. Over a year’s time, the difference adds up to $617.04. Over 10 years, the person will save $6,170.40. Besides reducing the interest and monthly payment, refinancing a home loan at a lower interest rate enables borrowers to build equity faster.
- When you want to adjust the mortgage length – You can also refinance your home loan to shorten the mortgage term and free up cash sooner. To decrease the term of the aforementioned 30-year fixed-rate $80,000 mortgage by 5 years, for example, a homeowner will have to pay $595.44 per month on a fixed-rate mortgage at 5.5. percent instead of $609.82 a month on the original home loan at 6.5 percent. The difference of $14.38 a month will also save the borrower $4,314 over the life of the loan. In some situations, borrowers opt for refinancing to extend the term of their mortgages and reduce the amount they need to pay each month. But this will also increase the total amount the borrower has to pay.
- When you intend to switch from an adjustable-rate to a fixed-rate mortgage – Refinancing from an adjustable-rate to a 30 year or 15 year term is a good idea especially when the borrower can get a lower interest rate than he’s currently paying. If you don’t meet the requirements to refinance your home loan, getting another adjustable-rate mortgage with better terms, such as a lower payment cap, can help avoid large spikes in payments.
While refinancing can be a sound financial decision, you should do the math first to ensure it won’t cost you more money than it saves. As a rule of thumb, refinancing may not be a good idea if:
- there is a prepayment penalty; if paying off the existing mortgage also means covering prepayment penalty fees, it could significantly reduce the amount the borrower saves by refinancing;
- the homeowner has already paid a big portion of the loan; since refinancing resets the amortization schedule, the borrower will pay more towards the interest in the first few years, which will prevent him from building equity;
- the homeowner plans to sell the house soon.
At North Florida Mortgage, we specialize in offering a variety of flexible mortgage solutions, at great rates. Our mortgage experts are ready to work with different clients, including first-time buyers, people looking for vacation homes and investors in rental and/or vacation properties. To find out how we can help you reach your financial and homeownership goals, give us a call today at (904).389.4635.