With interest rates near historic lows, it’s a good time to consider whether refinancing your home loan might help you lower your monthly payment or achieve other financial goals such as paying for college or home improvements. Simply stated, when you refinance your mortgage, you take out a new loan that pays off your original mortgage. The new loan can have a lower interest rate, a shorter or longer loan term, and depending on the appraised value of your home, you may be able to borrow more.
There are a number of reasons you may benefit from refinancing. Some of the most common reasons include:
Lowering your interest rate
Eliminating private mortgage insurance (PMI)
Lowering your monthly payment
Cashing out home equity to use the money for other purposes
If you think refinancing might be an attractive option for you, here are some questions to consider.
1. How have interest rates changed since my original loan was made?
If mortgage rates now are lower than they were when your mortgage was issued, you could take advantage and refinance to a lower-rate loan. The lower rate could decrease your monthly payment and provide long-term interest savings.
2. Has my credit improved since my original loan was made?
If your credit score has improved since the time you took out your current mortgage, you may qualify for a better interest rate. Just like the refinance benefits you'd see if interest rates decreased overall, a refinance due to better credit could provide savings on monthly payments and significant savings on interest in the long run.
3. Has the value of my home appreciated significantly since my original loan was made?
If your property value has increased since the time your current mortgage was made, you may qualify for a better interest rate and/or be able to eliminate private mortgage insurance (PMI) by refinancing. You may also be able to take some cash out to use for other purposes.
4. Has the unpaid balance of my loan decreased significantly since my original loan was made?
In many cases, the ratio of your loan amount to your property value can affect your interest rate or your ability to eliminate private mortgage insurance. So, whether your property value increases or your loan amount decreases, either one of those has the potential to help you lower your monthly payment. Individual cases can vary so a loan officer can help you see how this applies to your specific situation.
5. Would I benefit from changing my loan type?
Since different types of mortgages include different repayment schedules and details, your mortgage type affects how a refinance would work for you. For example, say you have an adjustable-rate mortgage (often called an ARM). With an ARM, the initial interest rate will change—and possibly increase—after a certain amount of time, such as five years. If you think interest rates may be higher in the future than they are today, now might be a great time to lock in a low fixed interest rate for the next 15 or 30 years.
6. What will I pay to refinance?
Just like when you took out your original mortgage loan, you may need to pay some fees associated with your refinance. Your loan officer can help you figure out whether the savings you realize from a refinance will allow you to recoup the following costs during the time you expect to own your home. Some of the costs that are typically associated with a refinance include:
Closing costs (approximately 3–6% of the loan amount)
Title insurance and title search fees
Attorney and preparation fees
7. How long do I intend to own this home?
While we can't predict the future, you should make an educated guess as to how long you intend to own your home before you decide to refinance. First of all, you must ensure you will be there long enough for your new monthly payment savings to offset any costs of refinancing, as we discussed above. Your loan officer can help you with those calculations.