Easy finance steps to help you determine if you should refinance your mortgage—and how to do it
So you’ve mastered your mortgage on your current home. (Congrats! 🎉) Now you’re wondering, “When’s the right time to refinance my mortgage?”
When you refinance your mortgage, you’re taking out a new loan to pay off the current loan and replace it with a more attractive one. Why is this a good idea? Many refinance their mortgages to lower their interest rate, consolidate debt, shorten the mortgage term—in other words, put extra money in their pockets! Cha-Ching! 🤑
First, check your cash savings. If you’re thinking about refinancing, typically you would plan to live in your home long-term. To see how much you’d save, look at your monthly cash savings, the length of your loan, and the difference in the amount you’ll owe on your new mortgage compared to your old one.
Psst, your cash savings consists of the amount of money you’ll now have in your pocket after refinancing. To find this amount, subtract your new monthly mortgage payment—along with about 3 percent of the loan from closing costs—from your current one.
The difference in the amount you’ll owe on your new mortgage is the difference between the principal amounts on your old and new loans.
Remember: on average, it takes 3 to 6 percent of the cost of the loan’s principal to refinance your mortgage, meaning you won’t see the payback right away. It takes time, young grasshopper, but it's well worth the wait.
Next, it's time to consider a few things before diving in head-first.
When will you reach the breakeven period? This occurs when the cost of the mortgage refinance pays for itself (and will start saving you cash!). The breakeven period will tell you the number of years you will need to continue to make the monthly payment from your new loan until you earn the cost of refinancing back. If you plan to live in your home longer than the breakeven period, it may make sense to consider refinancing your mortgage.
How much longer will you live in your home? If you and your fam plan on moving within the next five to 10 years, an adjustable rate mortgage (ARM) may be the best fit. This way, you can reduce your interest rate (one of the best reasons to refinance!) and monthly payment on your loan if interest rates are falling. You're also off the hook for higher interest rates in the future because you’ll live there short-term.
Although an ARM usually has lower rates, periodic adjustments will cause the amount you’re paying to increase over time, which can be the primary downside of using an ARM. A fixed-rate mortgage is better suited for those planning on living in their home for longer periods so the worries of interest rate increases disappear.
Are you able to shorten the term of your loan? Taking a 30-year loan down to a 10- or 15-year loan can result in major savings over time while only slightly raising your monthly payments. This is best to do when interest rates fall.
Will you refinance to tap equity or consolidate debt? Another reason many decide to refinance their mortgage is to access equity in their homes. This can help to cover major expenses such as home renovations. Hold up! Be careful—accessing equity may cause you to increase the length of your mortgage, which will not help you save money long-term.
Also be wary if you are considering refinancing to consolidate debt. While replacing high-interest debt with a low-interest mortgage may seem smart, you should only do so if you’re positive you won’t continue to spend when your debt is relieved.
Keeping these questions in mind when considering whether to refinance your mortgage can help make your decision easier and less stressful. Make the right decision for your family that will save you the most moolah in the long run.
Need some extra help? Download our free guide that lays out steps for you.
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