A mortgage refinance means paying off the existing mortgage and replacing it with a new mortgage. There are quite a few reasons to refinance a home mortgage for the savvy homeowner. Here is your guide, six essential tips, on when to refinance your home loan to ensure you get the best deal possible.
Tip #1: Compare Rates
One of the most popular reasons to refinance a home mortgage is to secure a lower interest rate. Compare the interest rate of your loan to the current offering in the market. You should consider refinancing only if you can secure an improvement on your current interest rate of at least 1% or better.
A lower rate has a couple of advantages. First, it reduces the amount of interest paid to the lender over the life of the loan as well as each month.
Tip #2: Calculate Costs
Refinancing costs money. Make sure that you’re gaining enough of a tangible advantage to offset the closing costs. Generally, refinance loans cost between 3% and 6% of the remaining principal. For a home that has $200,000 remaining on the loan, the closing costs can range from $6,000 to $12,000.
You have the option with many lenders to include those closing costs as part of the refinancing. If you can pay that amount at closing, you generally should as it will reduce the amount of the principal and the accrued interest.
Tip #3: ARM vs. Fixed
Another advantage is switching from an adjustable rate mortgage to a fixed rate. An ARM has a very low rate for the first period of term, generally 2 or 3 years. After that period, the rate will follow market conditions up or down. While rates have been historically low for several years, homeowners are encouraged to think in the long term. Rates will probably not stay low forever and securing a low rate with a fixed mortgage protects the homeowner against upward market adjustments.
Tip #4: Mortgage Insurance
Several loan programs require a mortgage insurance premium (MIP). The most common of these is the FHA mortgage. Mortgage insurance is often applied to a loan with a small down payment. It offsets the risk of the lender. Mortgage insurance appears as an additional component of the monthly payment. If you can refinance your mortgage and remove mortgage insurance, then it puts more of your money paid to the principal. This means you are building equity faster and potentially paying off your mortgage faster.
Tip #5: Loan Term
Most loans are on a 30-year term. The length of the loan is very important as it contributes significantly to the amount of interest that is paid. Let’s assume that all other variables of the loan are identical – the principal and the interest rate. For our example, let’s assume $200,000 principal and a 5% interest rate. Switching to a 15-year mortgage from a 30-year, will cut the interest paid by half.
Also, switching to a shorter term will often lower your interest by more than 0.5%, which could shave off another $10,000.
Tip #6: Debt Consolidation
Finally, accessing the equity you’ve built in your home is another primary advantage of refinancing. Using this equity, you can pay off other debts that might have a higher interest rate, such as credit card debt. It also provides monthly clearance in the budget, by combining various payments into a single payment. The caution for homeowners that are looking to use refinance for debt consolidation is to avoid incurring more high-interest debt now that the other balances have been paid off.
Pacific Union Financial
Pacific Union Financial, LLC is a full-service mortgage lender providing mortgages, refinancing, and loan servicing across the country and around the corner. With expertise in home loans for credit levels from best to bruised, we’d love to help you enjoy all the benefits of homeownership. Get in touch today and let us show you how we work hard to make mortgage easy.