By David Munn, CFP
As mortgage rates have started to move lower from their 2023 peak, homeowners who have purchased or refinanced in the last 1-2 years may start to consider the benefits of refinancing. A lower interest rate can mean significant savings over the life of the loan, but there may be other benefits to refinancing as well.
Here are some factors to consider.
1. Interest Rates Have Dropped
The most obvious reason to refinance is when interest rates drop below your current mortgage rate. A rule of thumb is to refinance if your new rate would be at least 1% lower than your current rate. This also assumes you plan to stay in the home for at least 2-3 years.
For example, if your current balance is $200,000, a 1% lower interest rate will save around $2000 interest/year for the next few years. So if additional closing costs and refinance fees add $4000 to the mortgage balance, you will still break-even in a little more than 2 years.
2. Interest Rates May Not Continue Falling
There may be a hesitation to refinance even if rates have dropped enough to make it worthwhile, due to the expectation that rates will continue to drop. After all, if you’ll be able to refinance into a 2% lower rate in a few months, why would you refinance into a 1% lower rate today?
However, this is a common blunder, as there is no guarantee rates will continue falling. In fact, rates could even go back up. The best decision is to refinance when it makes financial sense, and if rates continue falling, you may benefit from refinancing a second and even third time. While multiple refinances will result in additional closing costs and fees, each refinance decision must be evaluated independently on the financial merits, and not in light of previous “sunk costs”.
3. Your Credit Score Has Improved
Refinancing at a lower rate may be beneficial when your credit score has significantly improved since you took out your original mortgage. Lenders offer better interest rates to borrowers with higher credit scores. If you initially obtained a mortgage with a lower score and have since improved your creditworthiness, you may qualify for better terms today.
4. You Want to Change the Loan Term
Refinancing can be a good opportunity to change the term of your loan to better suit your financial goals. Homeowners who initially opted for a 30-year mortgage may want to refinance into a 15-year mortgage, as the rates are typically around half a percent lower. In some cases, the combination of lower interest rates and a 15-year mortgage can result in a similar monthly payment, but a loan that will be paid off in half the time!
5. You Want to Tap Into Home Equity
If you have significant equity in your home due to appreciating property values, refinancing may offer an opportunity to access cash through a cash-out refinance. This can be especially appealing if you have high-interest debt or need funds for major expenses like home improvements. By refinancing at a lower interest rate, you could potentially borrow against your equity at a lower cost than using other forms of credit.
Conclusion
Refinancing into a lower interest mortgage can provide significant savings and financial benefits, but it’s important to evaluate your personal situation. Consider factors such as how long you plan to stay in your home, your current loan terms, and the costs of refinancing. If the numbers align, a refinance could be a smart way to save money and better align your mortgage with your financial goals.
This material is intended to be educational in nature, and not as a recommendation of any particular strategy, approach, product or concept for any particular advisor or client. This material is not intended as any form of substitute for individualized investment advice. The discussion is general in nature, and therefore not intended to recommend or endorse any asset class, security, or technical aspect of any security for the purpose of allowing a reader to use the approach on their own. Before participating in any investment program or making any investment, clients as well as all other readers are encouraged to consult with their own professional advisers, including investment advisers and tax advisors. Munn Wealth Management, LLC, is registered as an investment adviser (RIA) with the United States Securities and Exchange Commission. Registration as an investment adviser does not imply any certain degree of skill or training. 1323GRG