Mortgage refinancing is a topic that is coming up in almost every client meeting these days. Mortgage rates are dramatically lower than they were even 6 months ago. Not to mention mid to late 2018, when rates were at 4.5%-5.0% for well-qualified buyers (unfortunately, this was right when my wife and I bought our first home 🤢).
Today, interest rates are at or below 3.00%, which is a historically low level. Does that mean refinancing is a good idea for everyone? Lets find out…
QUESTIONS TO ASK BEFORE TAKING THE NEXT STEP
Do you have a mortgage rate above the current level? The answer is probably yes unless you have refinanced recently. If your rate is higher now it is an excellent time to get a quote.
Do you have an adjustable-rate mortgage (often referred to as an ARM)? When interest rates are high, some buyers will opt for an ARM loan, which gives you a fixed rate for a stated period, typically 5, 7, or 10 years. After the fixed term has expired, the lender can adjust your mortgage rate based on the terms in the ARM contract. Given the current environment, now is a fantastic opportunity to lock in a fixed-rate mortgage that is likely below the ARM rate.
Do you have to pay private mortgage insurance (often referred to as PMI or MIP)? This is required when you do not put down 20% of the initial purchase price. Has the property value increased to the point where you have at least 20% equity in the property? If this is the case, you should look at refinancing to a conventional mortgage (an appraisal will be required). Refinancing now could allow you to get a lower interest rate and potentially remove the PMI. Saving more money on top of the interest rate sounds like icing on the cake to me! Suppose the property value has not increased enough to avoid PMI. In that case, you should still consider refinancing to save money on interest paid to the bank.
Do you want to pay your home off faster? This can be a more complicated scenario. Before proceeding many factors should be considered, such as how this affects your financial plan and likelihood of achieving other goals? Assuming it makes sense from a cash flow perspective, you could reduce your mortgage term to 10 or 15 years (or even shorter) at a great rate. This would likely increase your monthly payment even with a lower interest rate. After all, you are decreasing the amount of time to pay off the loan but this could save you thousands of dollars over the life of the loan in interest payments.
THREE ADDITIONAL CONSIDERATIONS
1) The first thing to consider is how long you intend to stay in your current home? You want to answer this question first because if you plan to relocate within the next 12 months, it most likely does not make sense to refinance. The reason being when you refinance you are incurring closing costs, just like when you originally bought the property. These costs typically range from $3-5k. With that being said, they can vary widely from lender to lender and the type of property you are refinancing. (Side note: Do not include escrow reserves for property taxes and insurance in the “closing costs” as you will have to pay property taxes and insurance regardless of refinancing). Long story short, you want to be sure you will be in the property long enough to recoup this expense.
Please bear with me as I nerd out for a minute with some numbers. For example, suppose you have a $400k mortgage balance at 4.25% for a 30-year fixed term. In that case, you are paying approximately $1,968 per month in principal and interest (P&I). If you refinance your mortgage, assuming the same balance of $400k at 3.00% for a fixed 30-years, you would be paying approximately $1,687 monthly in P&I. This is monthly savings of $281 or $3,372 annually. In the above example, if closing costs are $3k, it would take less than 12 months for the monthly savings to outweigh the costs. If closing costs are $5k, it will take about 18 months to hit break-even.
2) The second thing to pay attention to is discount points. Many lenders will ask (or assume) you are willing to pay extra closing costs to lower your interest rate. I rarely recommend paying for the discount points. In today’s environment, for 99% of individuals, it doesn’t make sense to do this. Keep in mind that mortgage interest up to $740k is tax-deductible anyway. Keep it simple and minimize the expense to refinance while rates are at historical lows.
3) Work with an independent mortgage broker! Many people will go to their primary bank for mortgages. The issue with this is you are only hearing what one bank has to offer. Where brokers work with several different lending institutions to find the best rate available for your situation.
What does the mortgage refinance process look like?
The refinancing process is basically the same as when you purchased your home. The most significant difference is you will not have to deal with a moving truck and boxes galore! From start to finish, this process can take 60 days +/-. You will need to provide the lender with account statements, insurance verification, etc. At today’s rates, the time it will take is well worth it!
If you have any questions regarding refinancing, please don’t hesitate to reach out to us. That’s what we are here for. I’m off to refinance my mortgage now 😉.