5 Important Questions to Ask Yourself Before You Refinance Your Mortgage
While interest rates may have been rising recently, they are still at historic lows, leaving many people considering refinancing their home loans. However, refinancing is not necessarily the right choice for everyone. With that in mind, we’ve brought you five questions to help you figure out whether or not it makes sense to refinance your mortgage in the near future. Keep reading to learn more.
Before you refinance your mortgage: What to ask yourself
1. What is my goal?
Before beginning to refinance your mortgage, it’s important to have a firm goal in mind for this process. Generally, when people decide that they want to refinance a home loan, they have one of the following goals in mind:
- Reduce their monthly payment: If your goal is simply to reduce your monthly payment, you can try to do a rate-and-term refinance at a lower interest rate.
- Reduce the time they’ll spend making payments: If you want to reduce the amount of time that you spend making payments, you can do a rate-and-term refinance and choose a shorter loan term. Keep in mind, though, that a shorter loan term will mean a higher monthly payment.
- Give their payments more stability: You can also think about doing a rate-and-term refinance to switch from an adjustable-rate loan to a fixed-rate one. With an adjustable-rate loan, your monthly payment can change as interest rates change. With a fixed-rate loan, you’ll have one interest rate for the life of the loan.
- Leverage their home equity: If you need to pay for a big expense, you can borrow against your home equity with a cash-out refinance.
2. How much disposable income do I have at the moment?
After you’ve gotten a handle on why you want to refinance, the next step is to take a look at how much disposable income you have available to you at the moment. Unfortunately, refinancing does come at a cost. Just like when you bought your home the first time, you will have to pay closing costs to close on your new loan.
Typically, closing costs end up costing between 2% and 5% of the loan amount. While you might be given the option to roll these costs into your loan amount, it’s important to realize that doing so will raise your monthly payment.
If your goal is to save as much money as possible on your monthly payments, it may make more sense to pay your closing costs upfront. However, if you’re going to go this route, you’re going to want to make sure that you have some cash set aside to cover that expense.
3. How long do I plan to stay in my home?
Since refinancing does come at a cost, it’s going to take some time before you break even on the expense and truly start seeing savings from taking out a new loan. To that end, it’s important to make sure that you stay in your home long enough to see the savings.
While every homeowner’s break-even point is going to be slightly different, one study by Betterment found that it takes an average of four years to break even on the upfront cost of refinancing a loan. You may want to use that figure as a benchmark when deciding whether or not refinancing is right for you.
If you’re planning on staying in your home for the foreseeable future, refinancing likely does make sense. However, on the other hand, if you can see yourself moving because of a job or because you’re in the process of growing your family, it may be better to delay refinancing for the time being.
4. Are my finances in good shape?
Truthfully, those with great credit scores, low amounts of debt, and substantial amounts of savings are often given the best refinance rates. In light of that, it’s in your best interest to make sure that your finances are in the best shape possible before you try to refinance.
In particular, you’re going to want to consider whether your finances have improved since you first took out your home loan or if you’ve been through some rough times. If your finances are in dramatically better shape than they were when you first bought your home, you may be a good candidate to refinance. But, if you’ve had some financial trouble recently, it may be worth waiting to refinance until you’ve been able to overcome those difficulties.
5. What are my other financial goals?
Lastly, before you decide to refinance, it’s also important to consider your other financial goals. Sometimes putting the money that refinancing would cost towards other expenses makes more sense. For example, if you are working on paying down high-interest debt, it likely a good idea to continue working on paying off your debts before putting the money out to refinance.
When in doubt, it’s always a good idea to talk to a lender before getting started. He or she can look at the specifics of your financial situation and help you make sense of what might be the right move for you. Ultimately, you have to feel comfortable before moving forward.