If you are a homeowner, at one point or the other during the life of your mortgage, you may find yourself thinking, "is now a good time to refinance my mortgage?" The promise to save yourself thousands in payments is definitely tempting, especially when interest rates are low. But when should you refinance your mortgage, and do you really need to?
Low-interest rate environments make refinancing an attractive opportunity for some. After all, your home is a large purchase and expensive, but is refinancing right for you? Let’s dive into the details.
What does it mean to refinance my mortgage?
First things first, let’s talk about what mortgage refinancing actually means. Essentially refinancing allows you to pay off a current loan by taking out a new home loan with ideally more favorable terms.
But your debt is not eliminated. Basically, you'll have a new mortgage.
Usually, you’ll seek out a lower interest rate or a lower monthly payment. In some cases, you may even choose to pull cash out when you refinance.
In most cases, your refinancing options are limited to large loans. A common opportunity for refinancing is with your home’s mortgage. But you can also refinance other loans such as your student loans or a car loan.
How can refinancing my mortgage help my finances?
When deciding when should you refinance your mortgage, it helps to know if it will make a difference financially. If refinancing doesn’t eliminate your debt, then why do so many people choose to take advantage of this opportunity?
Here is more detail on the top ways that refinancing can help your financial situation.
Lower interest rate
Before answering the question, "is now a good time to refinance my mortgage?" know this: the biggest perk of refinancing is that you have the opportunity to secure a lower interest rate with your new loan. In fact, if you aren’t able to secure a lower rate through refinancing then it may not be worth the effort.
With a lower interest rate attached to your debt, you’ll pay less in interest over the lifetime of the loan. In the case of a mortgage, you could stand to save several thousand dollars on your loan if you are able to shave off a percentage point on your interest rate.
The less interest you pay over the life of your loan, the better your financial situation can be. You’ll have the opportunity to put more funds towards your other financial goals beyond simply becoming debt-free. So check what mortgage rates are available for you.
Lower monthly payments
Beyond a lower cost over the course of the loan, you could also lock in lower monthly payments.
You can do this by taking advantage of a lower interest rate or a longer loan term. Either way, you’ll have more breathing room in your monthly budget with a monthly mortgage payment that isn't overwhelming.
You’ve taken the time to build equity in your home. But what if you are in need of cash immediately? During this time, you might wonder, "should I refinance my mortgage now?"
In a situation like this, a cash-out refinance can come in handy.
But it is important to know the risks before applying for a cash-out refi. Because you are essentially taking on more debt. Although you might enjoy the extra cash right now, adding more debt to your financial obligations is usually not a great option.
If you need cash now, then consider starting a side hustle or selling extra stuff around the house before making this major financial move. A cash-out refinancing could help you manage current financial pressures, but you’ll be faced with more debt to pay off over time.
Ability to pay off your mortgage sooner by refinancing
A lower interest rate means that your monthly payment could also be less. However, this could be the perfect opportunity to put the money you save towards paying off your mortgage early.
Basically, you'd apply the extra funds you have directly to your principal balance. Not only can this reduce the life of your mortgage, but it can also save you thousands of dollars as well.
Or you might consider getting a 15-year mortgage or 20-year instead of a 30-year mortgage. That way, the life of the loan is shorter, potentially saving you interest and definitely helping you pay it off in less time if you aren't very far into it.
So when asking, "when should you refinance your mortgage?", paying off your loan sooner could be a deciding factor.
Stop paying PMI
Private mortgage insurance is something that you have to pay until you acquire around 20% equity in your home. However, it adds to your mortgage payment each month. Paying for PMI could have many people wondering, "is now a good time to refinance my mortgage?"
PMI may be a factor depending on the type of loan you have. Although it isn't necessary for every type of mortgage loan, often, FHA loans do require a refinance to get rid of PMI.
Switch from an adjustable-rate mortgage to a fixed-rate mortgage
You may have bought your home using an adjustable rate mortgage, but since these can change over time, refinancing allows you to switch to a fixed rate.
If you are able to lock in a low fixed interest rate on your loan instead of an unstable rate, then it could be a good opportunity. That way, your interest rate will always be the same with no surprises.
When should I refinance my mortgage?
So, is refinancing a good idea? The answer to "when should I refinance my mortgage" will depend on your unique situation.
There isn't a set time when you should consider refinancing. The biggest points to think about are the costs and benefits.
But refinancing too far into your loan is rarely a good idea, as you're starting your loan over again. However, if you are only a few years into your mortgage or are refinancing to a shorter term loan, it might make sense for you.
If you are able to secure a lower interest rate with a monthly payment that suits your budget, then refinancing is something that you should consider. But make sure to weigh the costs of refinancing before moving forward.
What are the costs of refinancing my mortgage?
Although refinancing can save you money on interest charges, the upfront costs to refinance your mortgage can be hefty.
Typically, the closing costs of a refinancing arrangement are similar to the closing costs of buying your home. With that, the fees can add up quickly. In fact, the average closing costs on a refinance are $5,000, according to Freddie Mac.
A few fees to be aware of include:
- The application cost
- Government recording costs
- Origination fees
- Attorney fees
- Any inspection costs
- Related closing fees
Depending on the lender you choose to work with, the costs of refinancing can easily be thousands of dollars.
In addition to the monetary cost, the process of refinancing can be time-consuming and paperwork intensive. Don’t move forward unless you are willing to commit several hours to this process.
Once you determine the costs of refinancing, weigh them against the costs associated with your current mortgage.
How much are you able to save by refinancing? Are you even able to save money at all, or will refinancing be a break-even point? Weighing out the costs can make your decision easier.
Your credit and refinancing
You could be wondering what happens to your credit score if you decide refinancing is a good option. Is it affected?
Yes, your credit score will likely be impacted negatively by this decision, at least in the short term, though it's not usually a huge impact. And the credit score drop is also temporary.
If you're still struggling to decide, "should I refinance my mortgage now?" you should think about how good your credit score is. You also want to think through whether it is affected by hard inquiries and whether your debt is a big deal or not.
How to refinance my mortgage
So you've thought through the question, "when should you refinance your mortgage?", and decided that the answer is now. Read on for the steps towards refinancing.
1. Research first
Start by shopping around. Don’t just work with the first lender you find. Otherwise, you might not be saving as much as you could.
You can begin with where you bank and then research online lenders.
As you shop around, compare interest rates and loan terms across lenders. Pay close attention to any fees associated with your loan. Otherwise, you could be in for an unpleasant surprise later on.
You should also try out a refinance calculator to see what a new mortgage would be like. Seeing the numbers for yourself can help. It can give you an answer for "when should I refinance my mortgage".
2. Talk to your lender and do all necessary paperwork
When you've decided who to work with, talk to your lender about the process. Know that there may be application fees when you apply.
When going through the application process, you'll need to do all the necessary paperwork for your loan, including proof of income, W-2s, and insurance information.
3. Make sure your new interest rate is locked in
When you get a good interest rate offer, be sure to get it locked in. Otherwise, it might be different by the time you finish closing. Since interest rates are a big reason many people refinance, be sure to get the best rate possible.
Ask your lender to help you with this process.
4. Prep your home for appraisal
Usually, an appraisal is needed with a refinance. It will cost a few hundred dollars. The appraiser will come to inspect your home and assess its value, so be sure to clean and discuss anything that you've enhanced with the property that might add to its worth.
5. Close on the refinance loan
Finally, you've done all the work, and it's time to close on the refinance! During closing, you will sign all the paperwork you need to, as well as pay the closing costs. Then you're all set!
Should I refinance my mortgage now?
Refinancing your mortgage can be a great opportunity to change your financial situation. However, moving forward with a mortgage refinance is not the best option for everyone.
So when should you refinance your mortgage? The final decision is based on your personal finances and long-term financial goals.
If you have the ability to lower your interest payment obligations, then you could save yourself thousands. But if the upfront costs are too high, then refinancing may not make sense.
As you make this decision consider your mortgage and how much you could save. Weigh those savings against the costs of a refinance.
If you are able to save money, then refinancing could be a good option for your financial future. Otherwise, it is likely an unnecessary paperwork minefield.