Big savings by refinancing your mortgage at today’s historically low rates
Big savings available by refinancing your mortgage at today’s historically low rates
JUN 27, 2020 AT 10:00 AM
Would you spend a few thousand dollars now to earn back $30,000, $40,000 or $50,000 later?
For most people, that’s a no-brainer, and with mortgage rates at historic lows, homeowners who fail to refinance from yesterday’s rates to today’s rates could be depriving themselves of savings that could be put to more productive use later in life.
But like all financial benefits, refinancing requires acting when rates are low, doing your homework, comparing available deals, and, to achieve the largest potential benefit, spending upfront money on closing costs and sometimes a bit more money on your monthly payment.
However, many homeowners can still realize significant monthly and overall savings by refinancing with no upfront out-of-pocket costs.
Mortgage finance experts say now is an ideal time for homeowners to seriously consider transferring their old loan to a new one. Failing to act could mean losing a historic opportunity if rates start rising again.
Mortgage financing is a complex subject, with a lot of variables and different types of products designed for consumers with different needs. There’s no way to address all of them in a single article.
But here are some concepts and tips from mortgage finance experts that can help you determine whether a refinance is right for you, and if so, what you should consider before signing documents. This discussion assumes you’re looking to lower the cost of your home and not to get cash out of your equity.
What are today’s interest rates?
Do a Google search and you’ll find different lenders quoting different rates. That’s because each uses its own proprietary formula to come up with a rate disguising profit and overhead costs.
For a ballpark figure, a good place to start is Freddie Mac, the government-backed agency that secures a large percentage of mortgage loans, along with Fannie Mae. On June 25, Freddie Mac’s survey of mortgage lenders found the average 30-year fixed rate was 3.13% and its average 15-year fixed rate was 2.59% — near or at historic lows.
By contrast, in November 2018, the average 30-year fixed rate was 4.94% and the 15-year fixed rate was 4.36%. If you bought your home at those rates less than two years ago, you should definitely look at refinancing to take advantage of the decline, says Gino Moro, home financing specialist at Hollywood-based Southland Mortgage Inc. and president of the Florida Association of Mortgage Professionals.
How much lower should the current rate be before it makes sense to refinance?
When rates are this low, it makes sense to look into refinancing if your loan rate is at least a half of a percentage point higher than the current rate, says Joel Kan, assistant vice president of economic and industry forecasting for the Mortgage Bankers Association. The old rule of thumb used to be to wait until the difference was three-quarters of a percentage point or more, but today’s higher home prices have changed that calculation, Kan says.
Exceptions include loans with relatively low balances, such as $100,000, Moro says. In such cases, consumers must weigh what they can save against how much they’ll pay in closing costs.
Whatever they decide, it’s important that consumers not get fixated on small differences in interest rates, he says.
“Consumers often only look at the interest rate. They think it’s the most important thing. It’s not. It’s really the least important thing,” he says. Most important are your overall costs, if you plan to stay in your home for a long time, or how quickly you can start saving money on your monthly mortgage payment if that’s your goal.
What are closing costs and why are they important?
You can’t weigh the pros and cons of refinancing if you don’t face the reality of closing costs.
Like death and taxes, closing costs are unavoidable in any refinance or straight real estate purchase transaction. If a refinance deal is advertised as “no closing costs or fees required,” that just means the lender is hiding those costs under a higher interest rate, Moro says.
Fees include the lender’s underwriting fee, appraisal fees, state taxes, local recording fees, title insurance and settlement fees, plus broker’s commission.
Closing costs can range from 2% to 6% of your loan amount, depending on the loan size and they average $5,779, according to recent data from ClosingCorp, a real estate data and technology firm.
Moro says he advises borrowers to pay these fees upfront if possible because you’ll have to pay interest on them if you roll them into the loan, reducing the savings you will realize when refinancing.
If I can’t pay closing costs upfront, does it still make sense to refinance?
You can still save money in most cases by financing the closing costs. But the savings will be reduced and you might not qualify for an interest rate as low as if you can pay those costs with cash.
What type of refinance will save me the most money and which will save the least?
The best deal you can make if you plan to remain in your home indefinitely would be to go from your 30-year loan to a lower-interest 15-year loan, even if that means paying a larger mortgage bill each month, Moro says. Not only will you get a bigger interest rate drop than if you went into another 30-year loan, you’ll pay off the home much more quickly and save tens of thousands of dollars in interest.
The worst choice that borrowers can make if they are several years into a 30-year loan and plan to stay indefinitely is to start over again with a new 30-year loan just to save $100 or so a month, Moro says. Because the interest is front-loaded to the earliest years of the loan, starting over means you will delay by years getting to the point in the loan where you start paying down the principal and over the full term won’t save much, if any, money.
On the other hand, getting into a new 30-year loan to reduce your monthly payment can make sense if you haven’t been in the home for long, he says.
Give me some examples of what you’re talking about
OK, you can do this quick comparison using the refinance calculator at Fannie Mae’s knowyouroptions.com. Let’s say we want to figure out what we can save if we refinance the remainder of a 30-year loan for $161,400 that was taken out in 2012 at a 4.00% fixed rate.
Eight years into the loan, we’re looking to refinance the remaining $135,000 principal. Opting for a new 30-year loan at a 3.20% fixed rate with $2,000 in closing costs will reduce the monthly payment from $770 to $593 (excluding escrowed taxes and insurance). That’s about $178 less per month, or $2,135 less a year. Great deal, right? Well, not so fast, Moro says.
In this comparison, “people are only looking at the monthly savings and not the big picture,” he says.
To get the big picture, you have to calculate the total cost of staying in your current loan and compare it to the total cost of the new 30-year loan.
Do this by taking your current payment, $770, and multiplying it by the number of months remaining, which in this example is 265. That equals $204,050.
Now take the refinanced monthly payment, $593, and multiply it by 360 months, the number in a new 30-year loan. By the end, you will have paid $213,480 — $9,430 more than if you hadn’t refinanced. Plus, you’ve delayed paying off your home for an additional eight years. That’s not such a great deal after all.
So why should I even consider refinancing?
You’ll get a more favorable outcome if you’re only a couple years into your existing loan. Let’s assume you financed that same $161,400 principal at 4.00% in 2018 rather than 2012 and you’ve only chipped $5,000 off the principal over your first 24 months.
Now you’re looking at paying $770 for 336 months for a total remaining cost of $258,720. Refinancing into a new 30-year loan in this scenario will reduce your monthly payment by $83 to $687 — and reduce your total cost to $247,320, a savings of $11,400 compared to the old loan.
For borrowers in the earlier scenario who are eight years into their original loan, Moro advises looking at a 15-year fixed loan. Continuing our example, refinancing your $135,000 balance over 15 years at 2.59% would increase your monthly payment by roughly $149 a month to $919 (again, excluding taxes and insurance.)
But look at what happens at the end of the 15-year, 180-month term: Your total remaining cost is $165,420, a savings of $38,630 compared to staying in your current 30-year loan and doing nothing. And you’ve paid off your home seven years earlier than you originally planned. Is that worth an extra $149 a month?
You don’t have to refinance to reduce your interest costs and pay your home off earlier, Moro points out. You can shave from 4.5 years to eight years off of your 30-year mortgage, depending on your interest rate, if you simply make an additional monthly payment each year. That takes discipline, and your lender must allow it. Remember to write the words, “For Principal Only” on that 13th check you send each year.
Should I refinance if I don’t expect to stay in the home for long?
If you’re not planning to stay in the home forever, it might make sense to refinance into a 30-year loan to reduce your monthly payments. But how long must you stay to make refinancing worth your while?
Jeannette Bajalia, a personal financial adviser specializing in helping women plan for retirement, says you shouldn’t refinance to get a lower payment if you don’t plan to remain in your home for at least three to five years. That’s how long it takes on average to recoup your closing costs, which are based on the principal that you are refinancing.
If your closing costs are $5,000 and your new loan shaves $100 a month off of your payment, it would take four years and four months to recoup that $5,000. If you end up selling the home in two years, you would lose $2,600.
OK, I’ve decided to look into refinancing. Where should I go?
Interest rates, qualification requirements and closing costs can differ from lender to lender. Bajalia and Moro both advise against limiting your options to the first offer you get from a 1-800 number or large national bank.
“There are different kinds of loan programs,” Bajailia says. “People spend more time shopping for a car than figuring out the best closing costs.”
She advises getting three good-faith estimates: Find out what the large national bank is offering. Then go to your community savings and credit. Finally, talk to a mortgage broker. “I find they offer more favorable refinance programs.”
Moro, a mortgage broker, agrees. “Mortgage brokers have access to all of the lenders,” he says. “They can get you the best deals.”
Blog posted by:
Betty Rauch – Loan originator – NMLS #390883
Florida State Mortgage Group, Inc. – NMLS #393326
apply.sflmortgages.com 954.410.1960
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