The announcement by the Federal Home Loan Mortgage Corporation (“Freddie Mac”) on April 13, 2017, that 30-year fixed-rate mortgages have fallen to their lowest level of the year, averaging 4.08 percent, has many homeowners wondering if now is the time to refinance. After all, with the general interest rate outlook calling for an upward trend–influenced by the likelihood of two or three Federal Reserve rate hikes–wouldn’t it make sense to lock in a lower rate now, before the cost of borrowing goes up?
The most important factor is, of course, the currently available interest rate in comparison with the rate on your present loan. Most of us have heard the longstanding rule of thumb that if you can’t save at least two full percentage points below your present rate, refinancing isn’t worth it. While many question the validity of the “two percent rule,” it is true that saving money on interest is the number-one reason most people refinance.
Another factor is time. If you plan to stay in your home for a long time, even a smaller rate reduction can add up to thousands of dollars in interest saved during the life of the loan.
Of course, there are other costs to consider besides the interest rate. Closing costs can add thousands of dollars to the expense of a refinancing. You should also look at the total amount you will pay over the likely length of time you will be in the loan. Even though your monthly payment might drop as the result of a refinancing, greatly extending the term of the loan could still result in many thousands of extra dollars paid in interest.
Some homeowners use a simple break-even formula: Total closing costs divided by monthly savings equals breakeven point.
So, for example, if the total closing costs for the refinance are $3,000 and the new payment will save you $100 per month, the breakeven point is 30 months. Do you plan to be in the home significantly longer than 30 months? If so, refinancing might make sense. If not, then it’s probably best to stay in your current loan.
Homeowners can take advantage of numerous free online mortgage calculators to help with the number-crunching. Quickenloans.com, LendingTree.com, and BankRate.com are just three of the dozens of financial websites that offer free tools you can use to do your research.
Finally, a word of warning: Be cautious about your motives for refinancing. Sometimes, converting your equity to cash can allow you to invest in a business, pay for a home remodel that adds value, or pay for education. But refinancing to pay off credit card debt has a downside. While it’s great to get rid of that high-interest debt, the disadvantage is that what was unsecured debt is now secured–by your home. Missing credit card payments tarnishes your credit rating and can result in nasty collector calls. But missing your mortgage payment can forfeit your home to foreclosure.