Why you should refinance your mortgage
Many people approach the prospect of refinancing their home as a way to reduce their interest rate. Reducing an interest rate may not necessarily translate into the real goal, which should be: keeping more of your hard-earned money in your pocket.
What's in it for you?
- Lower your monthly payment
- Pay off your loan sooner
- Get cash for a home improvement project
- Pay off debt
- Reduce the risks of an adjustable rate mortgage
- Lower your long-term costs
Your goal may be to get out of a relatively high interest rate mortgage and into a lower one, but is that the most efficient way to approach the problem? Let’s look at the main goals of refinancing and see which one best suits your situation.
Each of these requires a different thought process so before you decide that you need a new mortgage, it helps to assess your situation carefully and ensure that your intended lender is not just giving you a lower rate because you asked for one. A thorough analysis of your financial situation will ensure your loan is tailored for your specific needs and will get you the long-term goal that you should be aiming for: keeping more of your own money in your pocket.
Lower your monthly payment
If your goal is a simple reduction of your monthly payment, your loan will be fairly straightforward provided your home appraises as expected and all other underlying factors such as credit and income are in line with the lender’s requirements. Here you could lower your monthly payment by increasing the term of your loan (stretching the payments out over a longer time period) or simply reducing the rate and therefore, the interest you pay, to get to a lower total monthly payment. The cash flow you free up now may be put to other uses.
Pay off your loan sooner
If you find your income has increased appreciably since you purchased your home, refinancing your mortgage could become a viable option. Rather than stay in a 30 year loan, you could save a bundle on interest charges by converting to a shorter term mortgage loan, likely saving several years’ interest by doing so. You could even opt for a bi-weekly mortgage payment which works out to adding an extra payment every year. Depending on the size of your mortgage, your savings over the long run could be huge as you are paying down the principal faster with this option and paying less interest overall.
Upgrade your home with cash-out refinancing
Taking equity out of your home to make an extensive upgrade can be a smart move. Not only does it increase the potential value, but it also could cost less than a line of credit or a personal loan. Your value locked in the home is put to work to increase the worth of your investment.
Pay off debt
Not everyone has extra income on hand to contemplate reducing the length of their mortgage. But some consumers pay enormous interest rates on credit card and auto loans. Rolling that credit card debt and other types of loans into a new mortgage could save you hundreds of dollars per month, provided your home appraises sufficiently to cover all costs. The extra savings freed up from not having to write checks for high interest rate debt every month can go toward saving a nest egg or as extra mortgage payments.
Some customers may not have enough equity in their home to pay off all debt at once, but with some cash freed up from a lower monthly payment, you may be able to put more cash into paying off each credit card or other loan one at a time. We often recommend you pay off the smallest debt first, then add the payment you would usually make on that debt, to the next smallest one. With a step-by-step approach, you could be debt-free much quicker than you realize.
Reduce the risks of an adjustable rate mortgage
There are times when an adjustable rate mortgage may be feasible for you as they usually offer lower rates than fixed rate mortgages. Not everyone feels comfortable being in an adjustable mortgage for fear of rising rates when the loan adjusts. For them, refinancing into a fixed rate mortgage may be a viable option particularly if you plan to stay in your home for a long time or if you are on a fixed income.
Lower your long-term costs
Any reason for refinancing should be examined with one eye on the future. Your goal should be to save on interest payments on your mortgage or other debt over the long term. Whichever method you use to get to that goal, refinancing can be an important tool for changing your financial situation.