Determine whether now is a good time for you to refinance and learn insider tips to do it right!
As the former head of a small mortgage company, it seems to be a good time to offer some insider tips about mortgage refinances.
Fixed mortgage rates bounce around over the years, but we may now be seeing the end of a 30+ year trend toward lower rates. Mortgage rates in the late seventies and early eighties topped reached into the teens, with rates as high as 13% back when I worked for a now defunct savings and loan. Since then, with many gyrations, fixed mortgage rates have been trending down.
Even as the economy eases into a slow recovery—which usually tends to push interest rates up—mortgage rates have been falling. In recent weeks, 30-year fixed mortgage rates have dropped below four percent (4%). As I look at these rates and compare them to my days in the mortgage industry in the 80s and 90s, I am amazed. I would never have believed someone that predicted 30-year fixed rates in this range.
Comparing mortgage payments will make this point much clearer. To buy a $200,000 home with a 20% down payment with a 13% mortgage would require monthly payments of $1770 while a mortgage with a four percent (4%) rate would require monthly payments of only $764. We can conclude that interest rates matter.
As you consider whether or not to refinance, let me encourage you to first consider whether or not you can pay off your mortgage entirely instead. See my last Meridian article.
Determining Whether or Not to Refinance
Refinancing your mortgage will cost about two percent (2%) of the outstanding balance. If you’ll cut your interest rate by even 0.5% you will eventually make that back up—if you stay in your house long enough.
Refinancing your home is a hassle. If you are planning to move in the next twelve months, you may simply find that it isn’t worth the aggravation. Although every good mortgage person will promise a smooth process and often deliver one, there are no guarantees. There are plenty of nightmares to be shared.
If you are willing to go through the difficulty of refinancing, but don’t plan to be in your home long it may still make sense to refinance if the difference between your current mortgage rate and current market rates are big enough.Here’s how:
Insider tip: if you are willing to accept a mortgage rate that is slightly above the current market rate, the mortgage company should be willing to waive most or all of the up-front fees. For instance, if the mortgage company were quoting a market rate of 3.875% and you were agree to pay 4.375%, the lender may be willing to do the work for free because the lender will sell the mortgage and make a profit on the above rate mortgage to compensate the company for doing the work. The difference between the market rate and the rate you would have to pay to get the mortgage company to do the refinance for free will vary from company to company and from day to day, so do some shopping. So if refinancing is free, even if your mortgage is at an already low 5%, there isn’t much reason not to do a “free” refinance to 4.375% if you can get it.
If you are going to be in your home for a long time—and I recommend that as a part of your overall financial planning—you should seek the lowest rate you can get and go ahead and pay the fees, provided the savings are big enough. When mortgages are traded, the market assumes you won’t stay in the mortgage until maturity. If your plan is to stay put, push for the low rates and pay the costs out of pocket.
Insider tip: there will be other payments made at closing that will feel like costs, but can be ignored as they should be offset by the typical pattern of skipping a payment and liquidating the insurance and property tax escrow on your old mortgage. You see, when you refinance, you’ll typically be required to bring some cash to closing to pay the interest on the mortgage for the time between closing and the accrual of the interest that will be paid with your first payment. If you close on the 15th of the month, you’ll typically have to pay interest on your old mortgage for 15 days at the old rate and 15 days on the new mortgage at the new rate, but then you won’t make a mortgage payment on the 30th. Instead, you’ll skip a month. Other costs unrelated to refinancing the mortgage may have to be paid at closing, including homeowners insurance premiums and property taxes. Those funds may also be sitting in an account with the old mortgage; if so, they’ll be used to reduce the payoff of the old loan. Even if they weren’t sitting in an escrow account with the old mortgage, you were going to have to pay those things anyway—they aren’t a cost of refinancing.
Try to ensure that your new loan balance is no higher than your old loan balance.If you absolutely must borrow the costs to complete the refinance—typically you can do this with no problem—note that you may be setting yourself back several years of principal reduction progress. You can offset the damage by getting a new mortgage with a shorter amortization. If your old mortgage had 25 years to go, try refinancing with a 20 -year or 15-year mortgage. With the lower interest rate, you may be able to afford it.
Goals of Refinancing:
Don’t make it about the monthly payment. Most people get excited about reducing their monthly mortgage payment when they refinance. That is natural. Depending upon how many years you’ve already been paying on your current mortgage, you may hurt your financial plan more than you realize if you aren’t careful. Your real goal should be to get out of debt completely as quickly as possible.
If you’ve been paying on your mortgage for nearly a decade and you get a new 30-year loan at a lower interest rate, your payment will drop quite dramatically but some of that reduction will simply be that you’ve extended the term and won’t be a function of lower interest rates.