The main benefit of refinancing your mortgage loan is clear – to benefit from a lower interest rate and to save money, both in the short term as well as over the term of your mortgage. At the moment, mortgage rates are as low as they have been for a long time and if you are thinking of refinancing, this is probably a good time to do it. As with any other big financial decision, there are pros and cons you’ll need to think through carefully. It’s always a good idea to seek expert financial advice before making decisions, too.
The biggest benefit of refinancing your mortgage – although not the only one – is to save money by refinancing at a lower rate. Not only will your monthly mortgage payment be lower, but you will also save money in interest charges. You can potentially save a lot of money over the term of your mortgage by refinancing - an interest rate that is just one point lower can potentially save you up to $5,000 over the term of the average 15 year mortgage. In general, if your new mortgage loan will have an interest rate that is at least 2% lower than your current rate, you should probably refinance.
You may have an adjustable rate mortgage (ARM) and are concerned about your rate going up, rather than down. Refinancing also allows a homeowner to refinance to a fixed rate mortgage (FRM) which offers more stability and peace of mind. You can’t always predict which way mortgage rates are going to go, but if mortgage rates seem to be on the way up, refinancing at a lower fixed rate may be a good idea. However, if you do have a fixed rate mortgage with a higher interest rate, it may benefit you in the long run to take a chance and refinance to an adjustable rate mortgage. It all depends on your financial state and the amount of risk that you are comfortable with.
Refinancing can also allow you to pay off your mortgage more quickly, in addition to saving you money. If you refinance your existing 30 year mortgage to take advantage of lower interest rates, you may also be able to shorten the term of the mortgage at the same time – the big advantage of this is that you will own your home more quickly. Reducing the term of your mortgage will also allow you to build up equity at a much faster rate. Of course, if you refinance from a 30 year mortgage to a 20 year mortgage, you may have a higher monthly payment amount, but it is an effective way to take advantage of lower interest rates to own your home sooner. If you are planning on an early retirement, this can help make that a reality.
Refinancing your mortgage also allows you to access some of the equity that has been built up in your home. There are no restrictions on how you can use this money – college funding, improvements to your home, or that dream vacation. Using the money for home improvements can also add value to your home over the long term. This type of a loan is also known as cash-out refinancing and often comes with a lower interest rate than other types of loan. If you do need extra money for whatever reason, this can often be a less expensive option than taking out a second mortgage.
You may also want to refinance simply because your credit score has improved over the years since you took out the original mortgage. Having a better credit score may mean that you can refinance at a lower rate and save money; the amount saved can often be substantial - your monthly payments can be somewhere between $50 and $250 higher, if your credit score is below about 630. Refinancing can also help your credit – if you do a cash-out refinancing, that money can be used to pay off high interest debts such as credit cards or other loans.
Most people will refinance their mortgage at some point during their lives – in fact, the average homeowner refinances their mortgage once every four years. Without a doubt, for most homeowners it’s a smart move, especially if you are going to save money. And the larger the amount of your original mortgage, the more money you can potentially save - if your current mortgage is for several hundred thousand dollars, the smallest reduction in the interest rate will result in a much lower monthly payment. However, you should always consult your tax advisor and mortgage broker to make sure that it’s the best decision for you.