Many financial experts are predicting that mortgage interest rates will creep up slowly during the remainder of 2013. If you've been considering refinancing your home loan and want to get in on today's low rates, it's a good time to evaluate your situation and see if refinancing is a good option for you.
Here’s why refinancing may be a good idea:
You can save a substantially on the interest you’ll pay over the lifetime of the loan.
When mortgage rates hit 5 percent in 2009—the lowest they’d been in decades—few people would have predicted that they’d be even lower by 2013. According to the online real estate site Zillow, the national market for interest rates is 3.57 percent as on mid-May 2013.
Suppose you took out a $150,000, 30-year mortgage in 2009 at a rate of 5 percent. Your monthly payments (without taxes or insurance) would be $805.23.
Now suppose you refinance that $150,000 loan at a 3.57 percent interest rate. Your monthly payments would be $679 a month—a difference of $126.
While that may not sound like a great deal of savings, over the 360 months of the loan you’d save $45,360! That’s enough to cover some of the costs of sending your kids to college.
- You can lock in a fixed rate of interest.
Variable interest mortgages may be great when borrowing rates are low, but if rates do start to go up—and go up quickly—you may experience a kind of sticker shock when your mortgage payment changes each year. If you can get fixed-rate, low-interest mortgage now, you’ll at least know what your mortgage payment will be in 10, 20 and 25 years.
- You can take the opportunity to pay down your mortgage faster.
Suppose you take that monthly $126 savings from the first example and apply it to your mortgage principal instead of saving it or spending it. You’ll reduce the length of time you’ll carry a mortgage from 360 months to 272 months (paying off your loan eight years faster) while saving more than $25,600 in interest on your loan.
But here’s why you might want to hold off on refinancing:
- Refinancing isn’t free.
The amount that you’ll pay for your refinancing varies according to state law. In general, you can expect to pay an application fee, a loan origination fee, an appraisal fee, an inspection fee and points on the amount of your mortgage loan. According to the Federal Reserve, the cost of refinancing can run between three to six percent of your outstanding principal. You can often roll these costs into your new loan, but you’ll be paying off those added costs for 30 years.
You don’t have enough equity in your home.
If you bought your home at a time when you only had to make a small down payment, you may be surprised to learn that most lenders now want you to have at least 20 percent equity in your home before they will give you a mortgage. This is called the loan to value ratio—the amount of the loan compared to the value of your home—and lenders prefer that ratio to be 80 percent or less.
So if your home is worth $200,000, many lenders will be reluctant to offer you a loan of more than $160,000.
- Your home is worth less than before.
The sharp drop in home prices in some areas has left many homeowners owing more money on their mortgage than their home is now worth. Banks won’t lend money under those conditions.
- You have bad credit.
Mortgage lenders have tightened the requirements for lending money; after being burned by so many foreclosures, they’re looking for people who are more likely to pay the money back. If you have bad credit, you’re likely to be denied a refinancing loan because you’re considered a high risk. If you still want to refinance your home, find ways to raise your credit score quickly.
- You have too much other debt.
Lenders are happiest when the amount of debt you’re carrying doesn’t exceed more than 36 percent of your income. If you’re carrying a higher debt load than that, pay it down before applying for a refinance.