Should I Refinance?

Here’s the quick answer.

If you can reduce your interest rate by 2%, will stay in the house at least 3 years and can decrease the term or at least not lengthen it, the answer is most probably YES.

A fixed rate mortgage with a term of no more than 15 years is your best bet. With interest rates currently so low, those with adjustable rate mortgages should be checking into refinancing to a fixed rate loan even if the rate is higher. Do not fool yourself by taking out a 30-year loan with the intention of paying it like a 15. Many people have said they were going to do that and 97.3% fail.

One loud word of caution, DO NOT roll credit card or car loans into your re-finance. See Bad Dog for more on that subject.

Let us look at real life example:

Our perfect family last refinanced their home in 2002 taking out a $150,000, 30 year 5.865% mortgage to do some needed home repairs. They plan to stay in their home when they retire in 11 years, but the current job market makes them worry they might have to relocate. Our happy family has at least 20% equity in their home and good credit. If they didn’t, that would change things. It might require them to purchase PMI or pay down the balance or it might make them ineligible for refinance.

To get the real (not the advertised) current mortgage interest rates, head over to Freddie Mac and click on the Regional Breakdown to see rates and Fee & Points. This shows us in the Southeast the actual average locked in rate last week was 3.68% on a 15-year mortgage with fees and points of .8%.

Use a mortgage calculator with amortization schedule like this one to find the interest paid each month, run a full schedule on the existing loan as well as the proposed loan.

We can use this information to compare the difference between keeping the existing loan and refinancing. For this comparison, we used the payoff amount of the existing loan + $1600 for fees and costs as the beginning principal amount for the new loan.

Rate Term Payment Total Payments Interest
Current Loan 5.865 21 years remaining $              886.35 $           223,360.20 $                  95,088.63
Re-Fi 3.68 15 years $              939.95 $           169,191.00 $                  39,319.56
Difference 2.185 6 years $              (53.60) $             54,169.20 $                  55,769.07

Reducing the interest by over 2 points and shortening the term by 6 years increases the monthly payment by $54. However, by the time the home is paid for (15 years on the new or 21 on the old) the new loan will save our family 55K in interest expense.

What if they have to move? In this example, the $1600 for points and fees is recovered within 7 months so if they manage to stay that long they will break even.

The real gift in re-financing this loan is the 6 year reduction in term. If our couple can find a way to pay $54 more a month now, later they can skip 72 monthly payments of $886.35.

One thought on “Should I Refinance?”

  1. Thanks, Cass, great advice. Seeing it all laid out on paper (well, on-screen) really forces you to make some plans, commitments and goals, and that’s always a good thing!

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