Mortgage refinancing is a phrase that gets bandied about a lot, but what does it really entail?
Put simply, refinancing a home loan means paying off an existing loan on your home and replacing it with a new one.
What’s the logic behind repaying a home loan only to take out another one? Does it make sense?
Reasons to Refinance a Mortgage
Well, there are several reasons why many homeowners choose to refinance their mortgage. It could be driven by one or more of the following:
- To enjoy a lower interest rate
- To reduce the payments you make each month
- To shorten the term of the mortgage
- To convert a variable (aka adjustable) interest rate into a fixed interest loan rate or the other way around
- To cash in on your home equity (current value of your property) with the aim of using the proceeds to finance a large purchase, fund major renovations on the property, deal with a financial emergency (for example, medical or school), or consolidate debt
- To switch to a new mortgage lender
- To get rid of private mortgage insurance (PMI)
When you refinance your home loan, it pays off the balance you had on the previous one. Refinancing allows you to take advantage of the new rates that come with the new mortgage.
In short, you get to enjoy better terms and interest rates without experiencing any disruptions in lending.
The sixty-four-thousand-dollar question is – at what point exactly does refinancing a mortgage make sense?
The Best Time to Refinance a Mortgage
The best time to refinance your home loan will vary as every situation is different.
You can refinance for any of the aforementioned reasons, but the common trigger for most homeowners is when the mortgage rates start falling below the existing rates they are paying.
We would advise to consider mortgage refinancing if you find yourself facing any of the following situations:
- When the current interest rates are at least one percent lower than the rate you’re currently paying
- When you are planning to pay off the loan quicker with a shorter loan term
- When you don’t plan to find movers to move house but rather envisioning staying put in your home for another five years or thereabouts
So, Is it Worth Refinancing?
The decision to refinance your mortgage will vary from one homeowner to the next, depending on factors like:
- Your current loan situation (see reasons to refinance above)
- The refinancing options available to you (you can also opt for a second mortgage or home equity line of credit as alternatives to refinancing)
- How the associated closing costs compare to the amount you’re paying each month – a refinancing calculator will come in handy here if you want to determine the actual numbers to expect. The idea is for the closing costs NOT to offset the savings you will be enjoying by lowering your interest rate
It is worth pointing out that refinancing a mortgage does not guarantee you a lower interest rate. Don’t underestimate the importance of doing your homework here. So, do your research properly and ask your lender questions without holding back.
It is only through this way that you’re able to ascertain that the terms and rates that come with the new mortgage are better than what your existing mortgage offers. Because that’s the whole point.
But, What’s a Good Mortgage Rate?
Typically, most people expect mortgage rates to decrease when lower short-term interest rates are announced by the Federal Reserve. Thing is, though, mortgage rates and short-term rates don’t always move in tandem.
If you saw a lower mortgage rate being advertised, it’s important not to get too carried away with the rosy numbers as mortgage refinancing rates change not just on a daily basis, but also throughout the day.
That means when it comes down to it, the rate you encounter may be higher (or lower) than the figures published at any one time.
Importantly, always keep in mind that your credit score has a huge bearing on your mortgage refinancing rate – that’s in addition to the equity you have in your home.
In other words, you stand better chance of enjoying a more attractive rate if you boast a good credit score and have proof of a steady stream of income.