2 Times When Refinancing Makes Sense, And 2 Times It Just Doesn't
Posted on: 7 June 2023
Refinancing your mortgage may seem like a smart move, especially when the monthly payments are too high. However, refinancing is not always the best financial decision. There are times when refinancing makes perfect sense, and there are times when it doesn't. Here's what you need to know.
Go For It
1. Interest Rates Drop
If interest rates drop, refinancing your mortgage will most likely lower the monthly payment, potentially saving you a significant amount of money over the lifetime of the mortgage. If you can secure a new loan with a lower interest rate than you have now, you should take advantage of it. However, refinancing has associated closing costs and fees that can add up quickly. Before choosing to refinance, calculate all fees, closing costs, and additional charges to determine if it's worth it.
Additionally, if interest rates drop significantly, you may be able to refinance into a loan with a shorter term. For example, you could refinance the balance on your 30-year mortgage into a similar payment for 15 years, shaving years of your mortgage.
2. You Need Cash
Refinancing your home for cash can be helpful in certain scenarios, such as paying off debt, remodeling, or experiencing an emergency. Cash-out refinancing allows you to borrow a portion of your home's equity, which can provide the funds you need without selling your home or taking out a personal or unsecured loan at a much higher rate. This move increases your mortgage balance, so make sure it aligns with your long-term financial strategy.
Stop!
1. Prepayment Penalty
Some mortgage contracts may include a prepayment clause, which imposes a fee if the homeowner refinances or pays off the mortgage early. The penalty can be excessive and offset any potential savings from refinancing, and in some cases, may even make the new loan more expensive than the current one. If you have a prepayment penalty, you should wait until the penalty period is over before considering refinancing.
2. Late Stages of Your Mortgage
Refinancing does not make sense if you're near the end of your mortgage term, even if the new loan has a lower interest rate. This is because the majority of the mortgage payment at this point goes toward paying down the principal amount owed on the home, not the interest rate. Therefore, refinancing toward the end of your mortgage term would mean resetting the clock and starting over with paying mostly interest again, which will not be the best long-term financial outcome.
Refinancing is an option worth considering, but as with any financial decision, it requires careful consideration of all the factors involved. Talk to a financial advisor to learn more about refinances.
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