Homeowner shouldn’t wait to refinance

At Bankrate we strive to help you make smarter financial decisions. While we adhere to strict , this post may contain references to products from our partners. Here’s an explanation for

Dear Dr. Don,
I have a 5/1 interest-only, adjustable-rate mortgage that adjusts in May 2009. It adjusts based on an index on March 15, which I believe will be a rate of 3.5 percent for the next year.

I’ve been looking at refinancing since last September into a fixed rate. But our house value has been sliding, so it hasn’t worked out. I believe I would now qualify for the 105-percent refinancing program.

My original purchase price was $690,000 with an original mortgage of $544,000. I also have an outstanding home equity line of credit balance of $50,000, but that cash is just sitting in my bank account. The current value of my home is probably around $530,000 based on an appraisal done a month ago — but really who knows? I expect it to fall at least another 10 percent.

I am currently employed and expect no issues with my employment for the next two years.

If we had a choice, we would probably move in about five years. But I think it’s unlikely with the value of the house now, so we’ll be staying put. Should I go ahead and refinance under the new program? Or should I take advantage of the low rate for another year?
— Matt Mortgage

Dear Matt,
Make sure you understand the terms of your existing mortgage before deciding to stay in that mortgage. The typical 5/1 interest-only ARM is recast at the first interest reset date to be a loan that amortizes over the remaining 25-year term of the mortgage with annual interest rate resets. Even with a low interest rate at first reset, you could see substantially higher mortgage payments because of the loan amortization.

The government has an interactive work sheet that will let you determine whether you are eligible for refinancing your “underwater” mortgage under the terms of the Home Affordable Refinance program. The site also lets homeowners check to see if they are eligible for a loan modification under the Home Affordable Modification program.

According to the FAQ page on that site, the program expires June 10, 2010. The refinance transaction must be closed and funded on or before that date. Taking advantage of the low rate on the reset in your current mortgage and waiting to take advantage of the program buys you — at most — a year of that lower rate.

You’re also speculating on where interest rates will be a year from now, and whether your home will continue to decline in value. The mortgage program limits are 105 percent of the current market value of the property. You don’t have much wiggle room in the appraisal to allow you the luxury of waiting a year.