The most common reason for refinancing is to save
money. Saving money through refinancing can be
achieved in two ways:
- By obtaining a lower interest rate that causes
one's monthly mortgage payment to be reduced.
- By reducing the term of the loan, thus saving
money over the life of the loan. For example,
refinancing from a 30-year loan to a 15-year loan
might result in higher monthly payments, but the
total of the payments made during the life of the
loan can be reduced significantly.
People also refinance to convert their
adjustable loan to a fixed loan. The main reason
behind this type of refinance is to obtain the
stability and the security of a fixed loan. Fixed
loans are very popular when interest rates are low,
whereas adjustable loans tend to be more popular when
rates are higher. When rates are low, homeowners
refinance to lock in low rates. When rates are high,
homeowners prefer adjustable loans to obtain lower
payments.
A third reason why homeowners refinance is to
consolidate debts and replace high-interest loans with
a low-rate mortgage. The loans being consolidated may
include second mortgages, credit lines, student loans,
credit cards, etc. In many cases, debt consolidation
results in tax savings, since the loans of consumers
are not tax deductible, while a mortgage loan is tax
deductible.
The answer to the question "Should I
Refinance?" is a complex one, since every
situation is different and no two homeowners are in
exactly the same situation. Even the conventional
wisdom of refinancing "only when you can save 2%
on your mortgage" is not entirely true. If you
are refinancing to save money on your monthly
payments, the following calculation is more
appropriate than the rule of 2%:
- Calculate the total cost of the
refinance--example: $2,000
- Calculate the monthly savings--example:
$100/month
- Divide the result in 1 by the result in 2--in
this case 2000/100 = 20 months. This shows the
break-even time. If you plan to live in the house
for longer than this period of time, it makes
sense to refinance.
Sometimes, you do not have a choice and are forced
to refinance. This happens when you have a loan with a
balloon provision, but with no conversion option. In
this case it is best to refinance a few months before
the balloon becomes due. Whatever you choose to do,
consulting with a seasoned mortgage professional can
often save you time and money. Make a few phone calls,
check out a few web sites, crunch numbers, and spend
some time educating yourself on the options available
to you.
