When should you refinance?

Southern Living, Jun 1997

Maybe you should refinance your home mortgage. Maybe you shouldn't. Deciding is a balancing act First, consider exactly what refinancing means. It's actually a misnomer because you aren't altering your mortgage in any way; instead you are making a new mortgage and using the money to pay off the current mortgage.

Whether you should refinance depends on the rate you've been paying and the current rate. The old rule of thumb was that current rates need to be at least 2% below your existing mortgage rate for the move to be profitable, because of the costs incurred in refinancing. Loan fees and closing costs can easily add up to thousands of dollars.

Today there's more to consider. Depending on where you live and the circumstances of your loan, you may qualify for one of the newer low-cost or no-cost options. The obvious advantage is that the new loan won't cost you as much in fees as the original loan did. Contact your lender as well as other mortgage companies and banks in your area to get an idea of what's available. Real estate brokers also may know of loan packages in your city.

Be sure to get a detailed analysis of all costs and the payback time. As a safeguard, get estimates from several lenders before you decide.

An obvious time to refinance your loan might be when you have an adjustable-rate mortgage (commonly known as an ARM) and the current rates are low. Typically, buyers choose an ARM when fixed rates are fairly high because an adjustable rate will be lower. If you are uncomfortable with an ARM, a low-rate dip could be the optimum time to lock into a fixed rate.

If you can live with an ARM, it's possible to convert from one plan to another with more protective features. It is important to look for an ARM that offers caps for increasing interest rates. Still apprehensive? Have the lender calculate the absolute worst-case scenario and decide what you can comfortably handle.

If you could make a larger payment now and want to pay off your mortgage sooner, it's possible to refinance for a shorter term mortgage. But don't do this without first finding out if you could pay off your existing mortgage just as quickly and cheaply. It's important to know if your current mortgage has any prepayment penalties so that you can make an informed decision.

Even with one or more of these valid reasons for refinancing, it's not worth the trouble and cost if you are planning to move in a year or two. In typical cases, the monthto-month savings won't compensate for refinancing charges unless you stay in your home for at least two more years.