How Can Refinancing Help You?

Interest Rate Chart

Refinancing is a great tool to help homeowners reduce their monthly commitment and reduce their interest rate. In the most basic terms, a refinance allows the homeowner to take the amount they currently own on their mortgage, less interest, and apply a new loan with new terms to that principal amount. So if you originally borrowed $200,000 and over the years paid that down to $100,000 you can now take refinance on that $100,000 with a lower monthly payment. Refinancing can be a great tool for preparing for a life change, lowering your monthly payment and reducing your interest rate. Refinancing is typically a great tool but you want to go through this with a plan for the future as there are costs associated with this process. So, when should you refinance (refi)?
 
To lower your interest rate
The most straightforward and basic reason to refinance is because of lower interest rates. Interest rates make up a significant portion of your monthly payment so the ability to reduce what you pay to the bank each month is great. When you originated your loan and the current market will have a direct affect on if refinancing for this purpose is a good move or not. Back in the 1980’s it was very common to get interest rates over 10%. Over the next 30 years interest rates have consistently decreased. During this time refinancing would have been a great option because each time you did, you would be bettering your current interest rate thus paying less money to the bank. Today, interest rates are at an almost all time low and it is widely speculated that they will rise over the coming years. If you secure a mortgage now, at 4% interest, and the rates rise, refinancing for a lower interest rate may not be a great option for you. 
 
When you make a large principal payment
Most loans are 30 years long. During this time, many people decide that they want to make a lump sum payment to their principal so that they reduce their principal and increase their equity. Once you have made a significant dent in the principal amount you owe, it may be a good time to consider refinancing. The reason this is a good option is because it reduces your monthly payment, making you able to save more money or make even larger payments to your principal. Make sure that the monthly payment reduction is a good investment. First, use this mortgage calculator to find out how much your payment would change per month. Next, multiply the difference between your original payment and your new payment by 12 for the number of months in the year. Finally, divide the 12 month return by the full cost, including closing cost and extra principal paid, to discover your return on investment. Typically, anything over 5% is considered a good return on investment.
 
To adjust to a future change in lifestyle
This situation may not be as common however, refinancing and changing the type of loan can be effective for certain situations. If you get a new job that has a rotation program that ends in 3 years and will have you move or if you know that in the next 3-5 years you are going to want to sell your home can be great reasons to change your type of loan. In this situation it may be beneficial to change to a 7 year adjustable rate mortgage (ARM) in anticipation of selling in the coming years. This will increase your monthly payments but allow you to make significantly more money when you go to sell and should be beneficial to you. 
 
Refinancing can be great but it has to be done properly to have a positive impact on your life. Every situation is different so always make sure to consult your financier should a refi be an option you are interested in.
 


 

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