When Should You Refinance a Home?

Refinancing a home can be a smart financial move if it helps you save money or makes your monthly expenses more manageable. While some experts recommend refinancing only if you can get a lower interest rate, shorten your loan term, or achieve both, there are other potential benefits to consider as well.

For instance, refinancing might allow you to temporarily lower your monthly payments, even if it means starting a new loan with a longer term. It can also enable you to access the equity in your home or get rid of a loan backed by the Federal Housing Administration (FHA) and its monthly mortgage insurance premiums. Before deciding to refinance, it’s crucial to carefully assess your financial situation and goals and work with a lender to understand all your options.

How Does Refinancing a Mortgage Work?

Refinancing involves obtaining a new mortgage to replace your current one. The process is similar to getting a mortgage to buy a house, but without the stress of home buying and moving. It is important to note that if you change your mind, you typically have until the third business day after your loan closes to cancel the transaction.

According to data from Ellie Mae’s Origination Insight Report, the average time to refinance a conventional mortgage ranged from 38 to 48 days between April 2019 and August 2020. It is worth noting that when interest rates drop and many homeowners seek to refinance, lenders may become busy, leading to longer refinancing times. Refinancing a loan backed by the Federal Housing Administration (FHA) or the Department of Veterans Affairs (VA) may also take slightly longer than refinancing a conventional loan.

When Should You Refinance Your Mortgage?

Refinancing may not be the right choice for everyone, but it can be beneficial in certain situations. Some reasons to consider refinancing your mortgage include the ability to reduce your monthly mortgage payments by securing a lower interest rate or extending the loan term, the opportunity to save money on interest charges over the life of the loan by securing a lower interest rate or a shorter loan term, or the ability to cancel mortgage insurance.

It is important to consider the costs associated with refinancing, such as origination fees, appraisal fees, title insurance fees, and credit report fees, which can range from two to six percent of the total loan amount. It is also worth considering the potential length of time it will take to break even on the costs of refinancing, as well as the potential impact on the overall length of the loan and the amount of interest paid. Common reasons for refinancing include the desire to lower monthly payments, save money on interest charges, or cancel mortgage insurance.

Grabbing a Lower Interest Rate

Refinancing your mortgage may be a good option if you can secure a lower interest rate or reduce your monthly payment. According to data from Freddie Mac, about 55% of borrowers who refinanced in the first quarter of 2020 either kept their current mortgage balance or increased it by less than 5%. A rate-and-term refinancing, which involves changing the interest rate or loan term without altering the mortgage balance, is typically the most common type of refinancing. Having a high credit score can also increase your chances of getting a lower interest rate on your refinanced mortgage. In some cases, bringing cash to the closing table may allow you to negotiate a lower interest rate or avoid paying private mortgage insurance (PMI).

Refinancing to Access Your Home’s Equity

During the first quarter of 2020, a significant portion of refinancing transactions involved an increase in the principal balance by at least 5%, which suggests that homeowners used the opportunity to obtain cash, finance closing costs, or both. While cash-out refinance rates may be slightly higher than rate-and-term refinance rates, it may still be an affordable way to borrow money.

By completing a cash-out refinance, homeowners may be able to access their home equity as long as they maintain at least 20% equity in their property after the transaction.

Refinancing to Get a Shorter Loan Term

Refinancing from a 30-year mortgage to a 15-year mortgage can often lead to an increase in your monthly payment. However, not only are 15-year mortgage interest rates generally lower, but reducing the loan term can also result in a significant reduction in the total amount of interest you pay over the life of the loan. If you do not itemize your deductions on your tax return, the interest savings from a shorter mortgage term may provide a significant financial benefit.

On the other hand, some people may prefer to pay off their homes over a longer period of time, even with low mortgage interest rates. This allows them to potentially earn a higher return on their investments and give those returns more time to accumulate.

According to Freddie Mac, in 2019, 78% of borrowers who previously had a 30-year fixed-rate mortgage refinanced into the same type of loan. Another 14% switched from a 30-year fixed-rate mortgage to a 15-year fixed-rate mortgage, and 7% switched from a 30-year fixed-rate mortgage to a 20-year fixed-rate mortgage. It is important to carefully consider your financial goals and circumstances when deciding on a mortgage term.

Refinancing To Get Rid Of An FHA Loan

Refinancing your mortgage can be a good way to get rid of mortgage insurance premiums (MIPs) if you have an FHA loan. MIPs are fees associated with FHA loans and are typically required to be paid for the entire term of the loan unless a down payment of more than 10% is made. By refinancing into a loan not guaranteed by the Federal Housing Administration, you can eliminate these premiums. Keep in mind that refinancing carries its own costs, so it is important to carefully consider whether this option makes sense for your financial situation.

Refinancing to Get Rid of PMI

Refinancing is not necessary just because you will no longer be required to pay private mortgage insurance on a traditional loan. To cancel your PMI policy, it is not necessary to pay off your loan, as is the case with FHA MIPs. Once you have reached a certain level of ownership, often 20%, you are able to submit a cancellation request.

Refinancing To Switch From An Adjustable-Rate To A Fixed-Rate Loan, Or Vice Versa

Borrowers may choose to refinance their mortgage in order to secure a lower, fixed interest rate if they currently have an adjustable rate mortgage (ARM). However, there are also situations in which it may be beneficial to switch from a fixed rate mortgage to an ARM, or from one ARM to another. For example, if a borrower plans to sell their property in a few years and is willing to take the risk of potentially facing a higher interest rate if they end up living in the property for longer than expected, an ARM may be a good option. It is important for borrowers to carefully consider their financial goals and plans for the future when deciding whether to refinance their mortgage and which type of loan is best for their needs.

How Much Does It Cost To Refinance A Mortgage?

It’s important to consider the costs associated with refinancing a mortgage, as these can vary significantly depending on the lender and the amount being refinanced. Some common closing costs include origination fees, application fees, appraisal fees, credit check fees, and attorney fees. In some cases, lenders may be willing to waive certain fees or offer discounts, so it’s always worth asking about the potential for negotiation. There are also lenders that offer no-closing-cost refinance options, but this can often result in a higher interest rate and higher monthly payments. It’s generally a good idea to get your financial profile in the best shape possible before refinancing, as a strong credit score, stable income, and low debt can help you qualify for a competitive rate.

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