The best time to refinance a mortgage is determined by a confluence of a two key factors: bettering your mortgage terms, and lowering the cost to borrow. It’s that simple. If you are not bettering your mortgage terms for you and you are not lowering the cost of borrowing when you look at the whole picture, you should not refinance.Bettering Your Mortgage TermsThere are several ways to get better mortgage terms for you. So part of the decision to refinance a mortgage depends on what it is that you want to refinance to accomplish. Here are some typical ways people better the terms of their mortgage:
Eliminating PMI. Private mortgage insurance goes away once you owe less than 80% of the value on your home. If you can show that the value of your home is greater than what you owe putting you under the 80% mark when you refinance you save the PMI which is a monthly cost that can be significant. Typically when all costs are considered home owners pay about 12% to have private mortgage insurance rather than pay off that amount of the loan.
Shortening the payoff period. The payoff period is usually part of the label you were quoted for your mortgage. The most common are the 30 year and the 15 year mortgage. The fewer years you have your mortgage the cheaper it is for you in interest. The reason is a 15 year mortgage is usually a lower interest rate, and more importantly, you pay the interest for a shorter time. Even if your payment goes up, you are saving money over the long haul.
Lowering your monthly payment. This does not always mean the mortgage is a better deal for you. You could lengthen the term of your mortgage and get a lower payment, but it will cost you more in the long run. However, if you can keep the term of your mortgage the same, and still lower payments then the terms are better for you. Or, if you simply can no longer afford to make the payments then even if it costs you more in the long haul on the mortgage, it will save you big time on your credit score and eliminate loss of equity through foreclosure.
Lowering the Cost of Borrowing
Lowering the percentage rate. The most basic reason to refinance is the market has lowered the rate you can get on your loan by at least a percentage point. If the APR (annual percentage rate) of your new loan is lower than the lending rate on the old, you should refinance. The APR takes into account the closing costs of the mortgage as part of the interest rate. Don’t compare APR to APR since you already paid the closing costs on the current mortgage, you can’t save any money on that.
Preventing foreclosure. The costs of foreclosure are difficult to quantify for each person. However, if there was any equity in the home you lose all of those years of payments into that equity. Further, your FICO score will plummet making it hard not only to buy a new home, but even to rent a good one in many locations. Many landlords now require a credit screening and will not rent to people who have recently defaulted on financial obligations. This doesn’t take into account the costs of personal dignity, respect, and reputation in a community.
Leveraging debt. In rare occasions, holding onto a mortgage saves the person more than paying it off. If there are investment vehicles that consistently pay a higher percentage than the APR on the mortgage then it is worth considering refinancing your home to get equity out and reinvesting in solid, low risk investment vehicles that leverage the debt in the home.