 When
to refinance your mortgage
Ask Dr. Don by
Don Taylor, Ph.D., CFA • Bankrate.com  Dear
Dr. Don,
I was always told that the time to refinance
is when the rate is two points lower than your current mortgage rate. Is this
true? -- Greg Grist
 Dear
Greg,
Not true. You don't have to wait until mortgage interest rates
drop by 2 percent before you consider refinancing your mortgage.
The
decision to refinance your home is dependent on many things, including: how long
you plan to be in the house, how much lower the interest rate will be on your
new loan, the closing costs for the new loan, your equity position in the home,
and whether you plan to do a cash-out refinancing. With a plain-vanilla
refinancing you're trying to take advantage of lower interest rates to lower your
monthly payments. If you have enough equity in your home you may even have a side
benefit of being able to stop paying Private
Mortgage Insurance (PMI). To take advantage of a lower
rate you'll have to close on a new loan and pay the closing costs associated with
that loan. That's true even if you opt for a no-cash or low-cash closing. With
a no-cash or low-cash closing, the costs still are there, they just are paid for
either with a higher interest rate or are included in the principal balance of
the loan. (There's truly no such thing as a free lunch.) If
you don't plan on being in the house very long, then the lower payments associated
with the refinancing won't cover these closing costs.
Bankrate's refinancing
calculator will help you estimate your new mortgage payment, closing costs,
and the months that it will take you to recoup those closing costs.
Bankrate's survey
of closing costs can put a finer point on these numbers. The table below shows
an example of why you may not want to refinance for a rate only half a percent
lower, but how reducing your rate by a full percent or more has a fairly short
payback period.
| Refinancing
example | | Original
loan: $150,000 | | Refinancing
amount: $148,638 | | Loan maturity
(years): | 28 |
30 | 30 |
30 | 30 |
| Interest rate: |
8% | 7.50% |
7% | 6.50%
| 6% |
| Monthly payment: |
$1,100.65 | $1,039.30
| $988.89 |
$939.49 | $891.16
| | |
| Total payments: |
$369,818 | $374,147 |
$356,001 | $338,217
| $320,817 |
| Total interest expense: |
$221,180 | $225,509
| $207,363 |
$189,580 | $172,180 |
| Estimated closing costs: |
0 | $2,500
| $2,500 |
$2,500 | $2,500 |
| Payment savings: |
0 | $61.35 |
$111.75 | $161.15 |
$209.49 | | Months
to recoup: | 0 |
40.75 |
22.37 |
15.51 |
11.93 |
Don't worry about the points you paid at closing on your current loan when you're
considering a refinancing. (See IRS
Topic 504, Home Mortgage Points for tax implications.) They aren't relevant
to the analysis because they're sunk costs.
Look instead
at what you can save going forward. Compare APRs when deciding between loans.
You may be able to refinance with your current lender and pay less in closing
costs, but you need to be sure that its rate is competitive. As
always, you can shop
rates in your market on Bankrate. (Bankrate even provides an APR estimate.)
You'd rather refinance once and lower your interest rate
by a point or more than do multiple refinancings for smaller interest rate savings.
Keep your pulse on where rates are and where they're going by reading the Mortgage
Rate Trend Index every Thursday on Bankrate. |
