If you have not yet bought a house, you will be bombarded by messages to buy now. It is the American dream, or so we are taught. But in reality, whether or not you buy or rent is personal. For some, buying makes more sense than renting, while for others the reverse is true. Buying a home is a truly personal decision. If you do happen to have a mortgage, you are no doubt being inundated with mortgage refinance information and offers.
Typically, you are told that it is a good idea to refinance if interest rates are reduced by at least about 1 percent. The truth is, it really depends on you and your future plans. Namely, how long do you plan on living in the home and does it make financial sense to pay upfront closing costs for the offered lower rate.
Do not forget, whether or not you refinance, the bank will be making money. This is simply a matter of will you save on your interest payments in the long term.
Compare Rates
The reason for mortgage refinancing may vary, but it is typically with regard to lowering payments or taking cash from your home. Simply put, are you trying to save money by obtaining a lower interest rate or are you trying to get cash by using the equity in your home?
In either case, when thinking about mortgage refinance, you must address interest rates. Interest rate differences are typically the trigger for considering mortgage refinance. Just like making the decision to buy or rent, interest rates are truly personal. The interest rate that you will be offered is likely base at least on your credit history, employment history, assets, liabilities, equity in your home, the type of loan (fixed rate vs adjustable), length of the loan, points, and the lender. As such, ensure that you are in great financial shape and shop around to get the best rate. Here, typically, the lower the interest rate the better the rate is for you.
In view of what happened during the great recession, many of today’s mortgage refinancing are with regard to lowering monthly payments as a result of obtaining a lower interest rate. Less home owners are taking cash from their homes.
Points
Another factor that will affect your interest rate on a mortgage refinance will be points. Points represent a payment paid to the lender to reduce the interest rate on the mortgage. Each point costs about 1% of the loan amount. Some lenders may offer fractions of points in some cases. Note that to obtain the lowest advertised interest rates, it is likely that you will need to pay for some points. Depending on the amount of points and the size of your loans, this could be expensive for the promise of a lower interest rate.
On the decision tree that is a mortgage refinance is the type of loan that you are seeking. An adjustable rate mortgage tends to have an initial lower interest rate as compared to a fixed rate mortgage. In essence, an adjustable rate mortgage promises a low rate now and typically raises over time. If the adjustable rate mortgage is held long enough, the interest rate will likely surpass the going rate for fixed rate mortgages.
Unlike an adjustable rate mortgage, fixed rate mortgages are fixed throughout the life of the loan. The interest rate does not change over time.
15 years vs 30 years
Will you increase the life of your loan or decrease it with a mortgage refinance. Based on your lender, you may have a loan of any length. However, the two most common length of loans are typically 15 years and 30 years. With mortgage refinance, the shorter the length of the mortgage, the lower the interest rates that you will be offered. Because the interest rate will be lower, you will also pay significantly less on interest over time. Of course, the shorter the length of the mortgage, the higher your monthly mortgage payments will be.
If you decide on a 15 year mortgage, it is important that you are comfortable with your monthly payments.
In certain situations, it may be best to take a 30 year mortgage with a slightly higher interest rate compared to a 15 year mortgage. In this case, if you chose to payoff your mortgage early, do so. This provides the benefit of a lower payment such that if you encounter financial troubles, you will have the financial room to maneuver and lower the likelihood of falling behind on payments.
Closing Cost
Let us not forget about the expense of mortgage refinance. If you are trying to save money by mortgage refinance, your lender will charge you for this opportunity to save. On average, the mortgage refinance closing cost are typically between 1 and 6 percent of the loan. However, it is important not to forget about escrow cost and the cost associated with any property taxes, and home insurance that must be prepaid.
Many lenders will try to reduce or hide the closing cost by rolling it into your loan. So if a lender offers a low or no cost closing, your closing cost is likely not zero. You may not pay at closing but that amount is likely rolled into your loan. Of course, the higher your loan, the higher the total interest that you will pay. Do keep this in mind. As the saying goes, if you do not pay now, you will pay later.
Note that you can demand to pay your closing cost and not roll an amount into your new mortgage.
Break Even Point
Another important aspect of mortgage refinance, will be your break even point. This is the number of months it will take for your monthly savings from refinancing your loan to exceed your closing costs.
This is important because if it takes you 5 years to break even and you will stay in the house for only 4 years, refinancing may not be a great financially beneficial idea. To benefit from a refinance it is important that you stay in the home longer than your break even point.
As an example, if your new mortgage saves you $200 a month over your previous mortgage and closing costs are $5,000, then $5,000 / $200 a month in savings = 25 months to break even. If you plan to sell the house before you break even, refinancing may not be a good strategy.
Make A Decision And Refinance
Once you decide to refinance your mortgage and you and your lender has agreed upon provisional terms, you will then need to get a rate lock. This will essentially lock you into a specific interest rate for a period of time. Based on who you are working with, to complete the required action to move to closing may take as little as a month or longer than a year. The length of time will depend on how long it takes to complete a review of your financial situation. For example, inspections of the home, appraisals of the home, credit checks and other requirements.
However, note that some banks will give you the run around for whatever reason. They will continuously request bank statements or proof of your employment each month on a repeated cycle. This will invariably continuously push back your closing date.
If you are in the position of a bank toying with you, stop it now. It is important to realize that it is your money that is being spent and that you can take your business to someone else. Give the lender an ultimatum, they will close shortly or you will take your business else where. The fact is, if you can get a low rate from one bank, you can potentially get a low rate from another bank. Do not allow a bank to treat you disrespectfully by toying with you on such an important matter as your home.
Conclusion
If you have not yet bought a house, it is not uncommon for you to be bombarded by messages to buy now. It is the American dream, or so we are taught. But in reality, whether or not you buy or rent is personal. For some, buying makes more sense than renting, while for others the reverse is true. Buying a home is a truly personal decision. If you do own a house, and have a mortgage, you are no doubt being inundated with mortgage refinance information and offers.
With your home typically being your largest purchase and the foundation of generational wealth, any transaction that is associated with your home is an important one. Do not take a decision to mortgage refinance lightly. Mortgage refinance may be an important step on your path to financial independence.
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