Why refinance: how to know when

Refinancing is most often motivated by lower interest rates, which can bring the dual benefit of lower mortgage payments and lower interest costs over time. But there are many other legitimate motivations. Some are a product of "creative" financing products such as Adjustable Rate Mortgages that were rare a generation ago. Your personal priorities will drive decisions on how to refinance. There is no "one-size-fits-all" solution, but here are a few reasons why you might want to refi.

Lower payments: When rates fall, it’s always tempting to refi. A common rule of thumb is that a two-point drop in rates will make it worthwhile. But this is not universal. For a homeowner with a $300,000 balance, a rate reduction of even one percent can lower the monthly payments by a couple hundred bucks and cut long-term interest expenses by hundreds of thousands.

A common mistake with this strategy, however, is to "start over," and refinance, a 17-year-obligation with a new 30-year loan. Sure, stretching out the term will lower the payments, but wasn’t the interest rate help enough for you? Don’t be greedy. When you choose the term of a new loan, think about some day getting out of debt.

A quicker payoff: This is often a worthy goal, if you can afford somewhat higher payments. Replace a 30-year-term with 15 years, and obviously you’ll be out of debt sooner – and won’t have to double your payments to do it. They’ll rise by about 40 percent (assuming here that both loans are at about 6 percent interest). Conversely, choose the ease of a 30-year term and the payments will go down a lot less than you’d expect.

Lower interest costs: Locking in a better fixed rate is great, but it is not the only way to lower interest bills. ARMs, or Adjustable Rate Mortgages, generally offer lower rates in the early years followed by higher ones later. It can be a fool’s game to think you can defer your big bills until later in life, but if you plan to be in the house for just a few years or less, an ARM may make a lot of sense.

Cash out: Liquidating the equity in a home became a national pastime in the last housing boom. Creative loan products and rapidly rising home values often made it easy to refi (at a lower rate if you were lucky) and walk away with a satchel full of cash. Taking cash out of your mortgage can be an entirely legitimate way to consolidate other debts. The downside was that gains in equity were in some cases an illusion, driven by a housing market bubble – and this way, you’ll never be able to pay off the property.

 

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Anthony J Crecco

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Thornwood NY  10594

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