Some Good Reasons To Refinance
To determine if refinancing is right for you, you should think about your reasons for refinancing.
Refinancing your current loan may make sense for one or more of these reasons:
If you want a lower interest rate and monthly payment
If you want a fixed monthly payment rather than one that can increase as interest rates rise
If you want to use some of your home equity to pay for home improvements, education costs, or other needs
If you want to build equity in your home at a faster rate
If your credit rating has improved since you obtained your current mortgage loan, and you want to benefit from more favorable loan terms
The better you understand your motivations, the easier it is to work with a mortgage lender or mortgage broker to discuss your refinance options and arrange the right refinance transaction for you.
Lower Your Interest Rate
The most common reason for refinancing is to lower the mortgage interest rate and the monthly payment. A lower interest rate will result in a lower monthly payment as long as you don't significantly increase the principal balance of your mortgage loan by "cashing out" some of the equity or value you have built up in your home.
When interest rates are low, refinancing out of a higher-rate loan may make good business sense. For example, suppose you decide to refinance from a $100,000 30-year fixed-rate mortgage at a 7.5% interest rate to the same mortgage amount and term at a 6% rate for a cost of $2,000. Your monthly payment of principal and interest for the new loan would be $599.55 versus a monthly payment of $699.21 for the old loan. As a result, you would save roughly $100 per month on the principal and interest portion of your mortgage payment.
When considering a refinance to obtain a lower rate, it is important to know how long it takes to recoup the cost of the refinance transaction. In the previous example, you would break even on your $2,000 cost to refinance after 1 year and 8 months of monthly payments.
If you plan to sell your home in the very near future, refinancing might not be your best option. However, if you plan to remain in your home well beyond the time it would take to recoup your refinance costs, you can save a considerable amount on interest payments over the life of your loan.
Change Loan Products
You may want to use a refinance transaction to switch from one type of loan product to another, such as from an adjustable-rate mortgage (ARM) loan to a fixed-rate loan. This may make sense if interest rates have fallen since you took out your ARM and you now want the assurance that your interest rate will remain the same for the life of your loan.
Your mortgage payments with an ARM adjust with changes in market rates: when interest rates change, your monthly payments change at the next rate adjustment period. The interest rate on an ARM will adjust periodically (for example, annually, every six months, or monthly) after an initial fixed period. But with a fixed-rate mortgage, your interest rate stays the same for the entire term of your loan.
You may have selected an ARM when mortgage interest rates were higher because it offered a lower initial interest rate and monthly payment than a fixed-rate loan. When interest rates fall, refinancing to a fixed-rate loan can guarantee a lower interest rate for the life of the loan.
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