If you’ve ever had a mortgage during a period of falling interest rates, you’ve no doubt considered a refi. But how do you know if the math will work out in your favor?
Here’s a recent email…
I have a 6% interest rate on a 30 year mortgage. Original final cost was $84,700. Today’s balance is $64,000. I am also in a rapid pay program where the mortgage is paid every two weeks and two additional payments annually. Should I refinance at a 3.9% interest rate or lower for a 15 yr mortgage? Will this save me money? What if anything would I loose? What is your advice? Thank you in advance for your reply.
Here’s your answer, Ronald!
While the decision to refinance can seem complicated, it’s really not that big a deal. All you really need to know is two things: how much it’s going to cost, and how long you plan to stay in your house.
For example, if the fees you pay to refinance are $2,000, and you save $100/month in interest by switching to a lower rate, it will take 20 months to recoup your cost. If you’re going to stay in the house exactly 20 months, you break even. If you move sooner than that, you lose money. For every month you stay longer, you come out $100 ahead.
Caution: You may be thinking that you can refinance your mortgage at no cost, which is exactly what some lenders advertise. But this is never true. There’s almost no such thing as a fee-free refinance. I can use myself as an example – I refinanced my mortgage a couple of years ago. Here are the expenses I paid:
Recording fees: $175.00
City/county tax stamps: $600.00
State tax stamps: $1,050.00
Credit report: $25.00
Underwriting fees: $595.00
Escrow fee: $150.00
Title search: $165.00
Title insurance: $1,125.00
Title endorsements: $140.00
Express mail: $75.00
Total expenses: $4,100.00
I did lots of negotiating to keep my expenses low (see Mortgage Shopping 101: Negotiating) and for the most part I was pretty successful. The fee associated with the actual mortgage loan – the underwriting fee – was $595.00. But as you can see from the above list, that’s not all there is. In my state (Florida), there’s no negotiating title fees and tax stamps and there’s no getting around them: They’re set by law.
The point is that Ronald needs to be aware of the entire cost of refinancing his mortgage. A lender can hardly claim they’ll refinance him at no cost because the only cost they can control are their fees.
In addition, there could be a very high expense in “no-fee” refinance that’s virtually invisible – the interest rate you might be agreeing to pay for the life of the loan. If the best rate currently available on 15 year loans is currently 3.75 percent and Ronald locks in 3.9 percent, that’s money that the lender is making and he’s losing. And that’s why you’ll often see lenders that offer “no-fee” mortgages: Sure, there’s no underwriting fee, like the one I paid. But these loans are often at higher-than-market rates, which results in the lender making a lot more in interest over the next 15 years than the $595 fee I paid.
Bottom line? If you’re considering a refinance, go into it with your eyes fully open. Find out how much it will actually cost to refinance a mortgage where you live, including government and closing costs. Then, check out a mortgage search tool like the one we have here to find the best rate. Then make your decision.
As far as a shorter mortgage – 15 years instead of 30 – the shorter the term of any loan, the less interest you pay.
The shortest loan you can afford to make payments on is the best. Of course, your payments will be higher. But no matter what loan you get, paying extra every month is never a bad idea.