Yankee Bill and I moved into our current house a year ago last November. At the time, mortgage rates were pretty high. The best rate we could find was a 5/1 Adjustable Rate Mortgage. What that meant was we locked in a lower than typical rate for the first 5 years (5.25) but then automatically converts to a adjustable rate mortgage. We took the mortgage knowing that we would refinance as soon as the rates dropped below 5-or just before 5 years, whichever came first.
So when the rates dropped, it was a no brainer for us-it was time to refinance.
But then I started wondering-if we had been in a traditional mortgage how would we have decided? Yes, a lower rate looks attractive, but what about closing costs? By the time you pay all those fees will you have saved money? How do you know when it makes sense to refinance?
I don’t feel comfortable giving advice on these types of issues, and I am far from a math or finance maven, so I asked Spencer Hill, a professional financial planner, to write about it.
And beware folks, this is going to require numbers, some research and yes, even math. Sorry, no way around it!
by Spencer Hill
1. Get your current mortgage balance and other loans /liens against the property. Most current refi’s are allowing little or no cash above the total lien amounts.
2. Get your current property taxes and homeowners insurance expenses. More lenders are requiring escrow of taxes and insurance.
3. Contact the attorney you want to do the closing; ask what it will cost. Most cases the attorney you used before will be cheaper than anyone else.
4. If you want to shop for the best loan contact all the loan officers within a 3 hour period. Interest rates are currently changing at least two times a day. The only accurate way is to have them all working on a quote at the same time. Give all parties the numbers created in steps 1 through 3. This eliminates guestimates and bad quotes.
5. Chose your mortgage broker or loan officer based on their good faith HUD estimates. Compare their costs (origination and other fees) and how it effects the interest rate and payment they quote.
6. Have your selected loan officer to price the loan two ways; 1) with all costs included in the interest rate and 2) with the costs added to the mortgage balance. The interest rates should be .25% to .375% different depending on the size of your loan.
7. Have your Mortgage Broker* take your current mortgage and the two estimates to create an amortization schedule on a spreadsheet to compare the payment, total payments, and total interest expense. If you plan to live in your house a certain period, make your calculations for this time period and select the lowest. A refi may make sense if you plan to live there 10 years, but not if you will be moving in two. Ask yourself another question- which is better – a lower current monthly payment or the lowest total expense over time. There is no correct answer; the best answer is the one you can sleep with.
8.If the numbers make sense in step 7, have the loan officer gather all the necessary information for a new mortgage. If everything is in place early, it will be easier to get a great rate and mortgage with proper planning
*Note from Jenn: You could do the Mortgage Amortization Schedule comparison yourself using a tool such as Yahoo’s Mortgage Amortization Calculator.
Photo by TheTruthAbout
Very helpful post!
We’re debating whether to refi, but for us it is looking like it’s not worth it. Monthly payments would go down slightly, but $2,000 closing costs would kill us right now.
Plus, we’re not planning on staying in the house more than 5 years.
Your post was helpful because it confirmed the calculations the hubby and I had did on our own. (Good to know we were thinking about it correctly.)
We’ve come up with this same question- we moved in to our first house a year ago last November too, but got a fixed mortgage at 5.65%. We’re not sure we have enough equity yet to refinance, and, even if we did, what’s the point where it makes sense? Thanks for the post!
Just a couple of rule of thumbs —
The new rate should be at least 1 percentage point below your existing rate for it to be worth it.
If you have a 30 year mortgage, see if you can finance to a 15 year (if you have been paying PMI and have been making bi-weekly payments for quite some time, you may be able to get the PMI dropped and apply that amount to the payment instead). It doesn’t make a lot of sense to be paying on a 30 year mortgage for a number of years only to refinance to another 30 year.
This is very helpful, thank you! In number one, when he says “allowing little or no cash above the total lien amounts,” what does that mean?
NC – I think it means that most banks/lenders are no longer loaning more money than the property (or item) is worth. This foolish practice led to some of the financial woes our country and banks experienced last year. Hard (and expensive) lesson to learn for all of us – whether we directly involved or not.
HG – of course you want to refi into a lower APR, but it may not be as simple as looking at 1+%…hence Mr. Hills list of things to examine and factors to consider. All situations and circumstances are different.
Good, informative post sweety!
YB
We refinanced our FHA loan on Christmas Eve, reducing our interest rate from 7.12% to 6.00%, and lowering our monthly payment by about $40. The closing costs were about $6000, but none were out-of-pocket; they were added to our principal. So yes, if we were to pay off the mortgage right now, we’d actually owe more than we did on Dec. 23. But we aren’t planning to move for many more years (maybe never). Over the life of the mortgage, we’ll save $15,000. For us, it was worth it.
bloggingmom67-Glad it was helpful. I wasn’t really sure of how to calculate it all myself-it was fantastic of Spencer to share his expertise with us.
Joanna-there are just so many factors to consider. I’m glad you found it useful.
HSGDMMAMA-I had heard the 1 point thing, but didn’t know why people said that-what the math was. Especially when you get into variations on the amount of interest left in each payment etc etc. . . I just want everyone to have as much information as possible so they can make the best choice in their situation.
NC-Well my hubs answered that question already for ya!
YB-glad you enjoyed it honey!
Annie-Sounds like you are comfortable with your refinancing decision!
In the current volatile market, even the prices of real estate sector have become very unstable. The falling prices and low mortgage rates are not making much difference in the scenario. People are confused whether to refinance their mortgage or not. This post has explained the point clearly and I am sure it will definitely clear their confusion.
Thanks for the post.