For today’s homebuyer, mortgages are cheaper than ever. The average rate on a 30-year fixed mortgage fell to 3.29% in early March, the lowest level recorded in almost 50 years. And 15-year mortgage rates came in even lower, averaging a mere 2.79%.
These exceptionally low rates are tempting many homeowners to refinance their existing mortgages. In fact, refinance applications jumped almost 80% from a year earlier, their highest level in over 10 years. But there are a number of factors you’ll want to take into consideration before deciding if refinancing is worthwhile for you.
The old and arbitrary rule of thumb said that a refi only makes sense if you can lower your interest rate by at least two percentage points — for example, from 6% to 4%. But what really matters is how long it will take you to break even. In other words, make sure you understand—and are comfortable with—the amount of time it will take for your overall savings to compensate for the cost of the refinancing.
Consider this: If you had a 30-year $100,000 mortgage with a 5.5% interest rate, your monthly payment would be $568. If you refinanced at 3.5%, your new monthly payment would be $449, a savings of $119 per month. Assuming that your new closing costs amounted to $2,000, it would take about 17 months to break even ($2,000/$119 = 16.8). If you planned to stay in your home for at least 17 more months, then a refi might be appropriate.
For most people, however, the rate differential—and monthly savings—are likely to be less dramatic:
Source: DST Retirement Solutions, LLC, an SS&C company. Based on a 30-year fixed-rate, $100,000 mortgage, including principal and interest.
How Long You Expect to Own the Property
How long you plan to live in your home is a key variable that should influence whether you refinance your mortgage. It’s only worthwhile if you expect to remain in your home long enough to recoup the cost of refinancing.
When you refinance, you’re likely to incur a number of different closing costs. You may pay a mortgage broker fee (assuming you do not go directly to a bank or other lender), a title insurance premium, a commitment fee, points, attorney or settlement fees, an appraisal fee, and other costs that add up quickly. So you’ll need to determine whether the savings from a lower rate justify the closing costs.
Here’s a summary of possible closing costs you might encounter:
- Appraisal fee ($300-$400)
- Home inspection ($300-$500)
- Application fee (varies)
- Attorney’s fee (hourly)
- Origination fee (about 0.5% of loan amount)
- Discount points (1 point costs 1% of the loan amount)
- Mortgage broker fee (0.50% to 2.75%)
- Mortgage insurance application fee (varies)
- Upfront mortgage insurance (0.55% to 2.25%)
- FHA, VA and USDA fees (1% to 3.3%)
- Title search fee (about $200)
- Lender’s title insurance (varies)
- Owner’s title insurance (0.5% to 1% of purchase price)
Stick With What You Know
Finally, keep in mind that your current lender may make it easier and cheaper to refinance than another lender would. That’s because your current lender is likely to have all of your important financial information on hand already, which may reduce the time and resources necessary to process your application. But don’t let that be your only consideration. To make a well-informed, confident decision you’ll need to shop around, crunch the numbers, and ask plenty of questions.
A little more about us:
Compass Financial is an independent, fee-based financial advisory firm in West Des Moines, Iowa. The Compass Team helps individuals and families develop an inspiring vision of their financial future and a realistic strategy.
By listening closely to our clients’ true needs, wants, hopes, desires and dreams we are able to combine Wealth Management and broad Financial Planning customized to each individual situation. It’s our goal to assist you in developing a personalized financial road map. The results from the process should include confidence that comes from planning. As we all know, life happens, sometimes ambushing the best laid plans. Accepting a new reality and adapting the financial plan is work we have done many times for our clients.
We also offer Financial Check Up or Second Opinion Services to those who want to enhance the service they are already receiving. This should lead to a better understanding of your current plans and give added confidence to your existing advisor relationship.
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