When Should I Refinance My Mortgage?
Wednesday, Nov 9 2022
Household finances change. Maybe you’ve built equity in your home, your credit score improved, or you want to tackle a home improvement project. Any of these situations could have you considering refinancing your mortgage. But with current mortgage rates climbing, you may ask yourself, “Should I refinance my mortgage?” Refinancing isn’t beneficial for every homeowner. But even in a rising-rate environment, there are good reasons to refinance. It’s essential to understand the implications of the financial decision.
Why Should You Refinance Your Mortgage?
Refinancing your mortgage, or “refi” for short, is the process of revising and replacing the terms of your existing home loan. You effectively seek to change the terms of your mortgage to change your interest rate, payment schedule, or other terms.
You work with a lender to get a new mortgage to take the place of the original agreement. After you refinance, your first loan is paid off, and you begin making payments on the new loan. You can use it to secure a lower monthly payment, change your loan terms, consolidate debt, or even use cash from your home’s equity to pay bills or make renovations.
Refinancing can help you:
- Lower Your Mortgage Payment. Interest rates are constantly in flux. Refinancing could secure a lower interest rate if rates have fallen since you took out a home loan. A lower interest rate helps you save on your monthly payment and increases the rate at which you build equity in your home.
- Shorten Your Loan Term. A refinanced mortgage can help you pay your home off more quickly. Although a 30-year mortgage is most common, you can opt for a 10-, 15-, or 20-year loan. Your payments will lower the principal rather than the interest, resulting in you paying less overall.
- Extend Your Mortgage Term. Making mortgage payments may become more challenging than you expected. Or maybe your financial situation changed. Lengthening the term of your mortgage can lower your monthly payments, freeing up cash to invest, build an emergency fund, pay down other debt, or spend on necessities.
- Access Your Home’s Equity. With a cash-out refinance, you take advantage of the equity in your home. Let’s say your home is worth $200,000, your mortgage balance is $165,000, and you have $35,000 worth of equity. You might seek a cash-out refinance to use the equity to pay off other debt. You can also use the money to invest in your property with home improvements such as a new kitchen or roof.
- Eliminate Mortgage Insurance Premiums. You’re likely paying private mortgage insurance (PMI) if your down payment was less than 20% when you took out your loan. This insurance costs you around $800 to $1,050 annually for every $100,000 borrowed. Your mortgage servicer must cancel your private mortgage insurance when your mortgage balance reaches 78% of your home’s value, or the mortgage hits the halfway point of the loan term. Refinancing can eliminate your PMI payments, saving you thousands.
- Convert an ARM Loan. With an adjustable-rate mortgage, once the initial period is over, your rate will become adjustable and depend on current market trends. If the new payment will strain your budget, refinancing allows you to secure your rate before it resets. It provides stability since the new rate won’t change over the life of the loan.
When Should You Refinance Your Mortgage?
There are no rules stipulating when you should refinance. It depends on your budget, plans as a homeowner, and financial goals. You’ll want to consider current interest rates, financial health, and credit score. Refinancing requires a title search, appraisal, and application fees, which will all cost you money. The process can cost 3-6% of a loan’s principal. You’ll want to determine your break-even point after accounting for refinancing expenses.
Before refinancing, take a careful look at your financial situation. How long do you plan to continue living in your house? How much money will you save by refinancing? Has your financial situation changed? Answering these questions will guide your decision-making process.
Tips When Refinancing
Refinancing can be great if it reduces your mortgage payment, shortens your loan term, or helps you build equity more quickly. When used carefully, it can also be valuable for controlling debt.
When asking yourself, “Should I refinance my mortgage?” consider the following:
- Your Credit Score. Credit scores range from 300 to 850. Lenders use them as an indicator of your creditworthiness. When you bought your house, your credit score was a significant consideration for the lender. It’s also essential when you are refinancing. A good credit score makes the entire process easier and more affordable. Credit scores of 740 and higher are “very good” to “exceptional.” The minimum required score for most mortgage lenders is 620. Lenders look for higher credit scores, but refinancing with less-than-ideal credit is possible.
- Built-Up Equity. The equity built up in your home will be another factor to weigh. Equity is the difference between your home’s market value and what you owe on your loan. Equity grows every time you make a mortgage payment. You can use the equity to pay for college costs, home improvements, or debt consolidation. And if your home’s value has gone up, you might get additional equity buildup.
- Refinancing Costs. Closing costs depend on where you live. Plan to pay for the application, appraisal, inspection, and closing fees. You may need to pay for a title search if you refinance with a different lender. Specific lenders charge a penalty if you pay off your mortgage early. If your loan has this stipulation, consider whether the savings will offset the prepayment penalty.
- How Long You’re Staying. Selling shortly after refinancing means you won’t capture the savings benefits of lower rates. The timeframe will depend on the cost savings. A rule of thumb is not to refinance if you plan on selling your home in the next five years.
Mortgage Refinancing with Focus
With market conditions constantly changing, it’s natural to wonder, “Should I refinance my mortgage?” Refinancing can take time and effort, but the savings you could receive can make it worthwhile. The Focus Federal Credit Union team will help you determine if refinancing is worth it. We will walk you through a break-even analysis to ensure your refinancing savings cover the cost required to do the refi. Contact us today to learn more.