Many homeowners are considering mortgage refinances right now because interest rates are still so low and home prices continue to rise with low housing inventory throughout the country. It may seem like a no-brainer to refinance and lower your mortgage rate, but it really does depend on many financial factors. Last week, we looked at some of the general things you need to consider when refinancing. In this article, we want to dig a little deeper on a couple specific ways you might be able to save money with a home refinance.
The ultimate goal of a refinance should be to reduce your homeownership expenses, and the impact can be made in the short-term, the long-term or ideally both. This can happen in multiple ways:
Lower interest usually means lower monthly mortgage payments, and that’s a good thing right? Just remember that you are essentially starting the loan over and you will be paying more interest than principal in those earliest payments (even if your new rate is lower). So if you are 5 years into a 30-year loan and you refinance with a new 30-year mortgage, you may not actually be saving that much over the long run. It may depend on how long you intend to stay in the home and if the reduction in overall loan value (the principal) is worth the restart.
For example, going from a 30-year fixed mortgage down to a 15-year loan. Your payments may not go down or they may even go up a little, but your overall interest ratio will and you will also potentially pay off your house sooner. You will be able to secure a better interest rate and you will end up paying much less interest overall as you pay down your principal. If the numbers make sense, this is often the best way to go when refinancing.
If you originally put less than 20% down on the mortgage (common with FHA and VA loans), you are paying private mortgage insurance (PMI) every month until you have paid off 20% of the principal amount. Though it helped you secure the home loan, you are essentially throwing extra money away each month. PMI is never reimbursed or forgiven. You simply pay it until you aren’t required to pay it any longer. A refinance could allow you to eliminate your mortgage insurance by leveraging your equity. Your home should appraise for more now than when you originally bought it, and that can help you get better interest rates and possibly removing PMI payments from your monthly mortgage bill.
You’ve already paid off some principal on the original loan. This means the new mortgage will be for a lower amount. This can be beneficial in many ways when it comes to locking in a better rate, lowering monthly payments and eliminating mortgage insurance. Again, you still have to crunch the numbers and make sure that the refinance makes sense. A refinance isn’t going to help you now if you plan to move in less than a year. Reducing the loan balance is beneficial in many situations, but not every one.
Home prices have been on the rise while interest rates remain low. You may be able to qualify for a cash-out refinance that allows you to take out some of your equity in the new loan, or maybe you look into a home equity line of credit (HELOC). This effectively adds to your loan debt and you never want to take out more than you absolutely need, but you can put that money toward paying off other high-interest debts (credit cards or car loans) or toward upgrades on your house that will effectively increase its equity and resale value even more.
Certain types of loans are considered “non-conforming” because they are not backed or regulated by Freddie Mac or Fannie Mae like traditional “conforming” home loans are. Among these include what are considered “jumbo” loans, which are for much higher than average amounts. Depending on where you are at in your current loan or financial situation, you may be able to refinance from a jumbo loan down to a normal conforming loan, which will likely give you better rates and more flexibility. Lenders are taking less risk with conforming loans that they can sell to investors. This is especially true in today’s market where all mortgage loans are more scrutinized and it’s harder for anyone to qualify, let alone jumbo loan borrowers. The less risk there is to the lender, the more options you will have.
Check out this old article on Mortgage Professor for some calculations you can use to determine if it makes sense to refinance from a jumbo loan to a conforming loan. Please know that parts of this article are a little outdated, but the basic math still applies.
Before you consider refinancing, you will want to weigh all your options and run the numbers to make sure it’s the right move for you right now. Most refinances will save money in some way, but you have to look at both the short-term and long-term impact to determine how much it will really benefit you—if at all.
Talking with your financial advisor is another good idea when it comes to major financial decisions such as refinancing your mortgage loan. If you are already an Illumination Wealth client, you can reach out to your financial advisor to ask questions. If you are in need of a financial advisor to help guide you through some of life’s toughest financial decisions, contact Illumination Wealth today to schedule a no-obligation introductory consultation.