When Does It Make Sense To Refinance Your Mortgage?

How many times have you seen mortgage interest rates drop and wondered, should I refinance my home?

It is great that you’re considering this money saving option, but there are other factors to consider when you’re looking into refinancing. Here at TJC Mortgage, we know it all starts with a loan, but we also want to help you get a better one if refinancing is an option for you.

Today we are going to help you determine the best time to refinance.

Meaning of a Mortgage Refinance

Refinancing your mortgage simply means taking out a new mortgage loan that will replace the current one. The difference is, your new loan will have better terms and conditions than your existing one, which will save you money.

Homeowners refinance in order to obtain lower interest rates, convert an adjustable-rate mortgage (ARM) to a fixed-rate mortgage (FRM) or vice versa, get some cash, consolidate debts, or shorten the term of the loan.

Be sure to pay attention to timing, since mortgage rates change periodically. A well-timed refinance home loan will lower your monthly payments while and keep closing costs to a minimum. For example, when the market is stable, and competition is high, lenders are more likely to relax their mortgage lending terms, which will be beneficial to you.

Your Refinance Options

Even before you decide whether or not the time is right, you need to know which refinance options work best for you. There are two main options: rate-and- term refinancing and cash out refinancing.

The rate-and- term option allows you to refinance whatever mortgage balance is outstanding, for lower interest rates and terms. This is an excellent choice if you want to save money because your monthly payments will decrease and you can extend the term of your loan.

On the other hand, a cash-out refinance allows you to take out a bigger mortgage than what you owe.

The new mortgage will be used to pay off your existing one, and then you get to keep whatever amount of money is leftover. This refinance option is ideal for homeowners who have built-up equity but want a little extra money in their pockets now.

While you consider whether you should do a rate-and- term refinance or cash out refinance, you should also think about the type of mortgage that suits you best. In that case, you have three options:

  1. Refinance a conventional loan to a conventional loan: one of the simplest refinance options. If you have at least 20% equity in your home and decent credit, you should be able to be approved for this option. Interest rates are a little higher than the other two options, though.
  2. Refinance your current loan to FHA loan: if you have little or no equity (i.e. if your mortgage is underwater), you should consider refinancing your loan to FHA. Under this alternative, you can still qualify for refinancing with shaky credit and a history of defaulting. With this option, you will be required to pay an upfront fee as well as monthly mortgage insurance.
  3. Refinance your current loan to a VA loan: even if you don’t have a VA mortgage loan currently, if you’re eligible, you can apply for this type of refinance. These mortgages are one of the best options in the market because they offer the lowest interest rates and don’t require PMI. VA mortgages are backed by the Veterans Affairs (VA) and are considered less risky to lenders, allowing them to offer lower rates.

Why You Should Consider a Refinance

Here are the specifics:

  • To lower interest rate: experts say that by lowering your interest rate by a mere 1% can translate to a lot of money saved.
  • To shorten the term of your loan: use your savings to reducing your mortgage and save even more by paying off your loan quicker.
  • Debt consolidation: use the cash out option to pay off debts or other expenses as you wish.
  • Converting an ARM to FRM or vice versa: adjustable-rate mortgages (ARMs) are great when interest rates are low, but as soon as they increase, so do your monthly payments. That leaves you exposed to the fluctuations of the volatile real estate industry.

On their part, fixed-rate mortgages (FRM) allow you to pay a constant and predictable amount. But their fixed nature means you can’t take advantage of low-interest rates when the industry is stable and performing well. Depending on your current situation and financial plan, you might see the need to convert from one to another.

The bottom line here is that refinancing is great, and even better if you time it right. Keep in mind that closing costs will be between 3 and 6% of the principal amount.

The Best Time to Refinance

When current interest rates are low: if you can get a lower interest rate (a reduction of +1%) then a mortgage refinance is worth considering.

When closing costs do not increase the amount to be repaid: if the closing cost of your refinance are too high, then it will take longer for you to recover this amount in savings. However, many lenders offer deals on their cost, which is something to look out for.

Note that a no cost refinance is not necessarily ideal because your lender might absorb the cost by offering higher interest rates. Use a refinance calculator to see how different cost and rates affect how much you save per month.

If your mortgage does not have prepayment penalties: some mortgage loans charge you a fee if you pay it off too soon. Check to see if the money you will save refinancing outweighs the cost of thisprepayment penalty.

If you are planning to continue living in the house: If you’re planning to move from your home in the next few years, the lower interest rates for that short period of time might not be enough to compensate for the cost of refinancing. The longer you stay in your home, the more money you stand to save.

When you need cash: get cash now without having to sell your house. Just keep in mind, you will have to pay this back later eventually.

When your jumbo mortgage has reduced to a conforming amount: if you originally had a jumbo mortgage but have paid it down, so it’s no longer considered jumbo, it might be a good time to refinance. Practically all mortgages have lower interest rates than jumbo loans, which you can now take advantage of.

When you have a better credit score: if you’re credit score has increased from when you applied for your original mortgage, lenders will see you as a less risky borrower, and won’t mind offering lower interest rates.

Disclosure: Even though a lower interest rate can have a profound effect on monthly payments and potentially save you thousands of dollars per year, the results of such refinancing may result in higher total finance charges over the life of the loan.