When Does It Make Sense to Refinance?
When you refinance a home loan, your existing mortgage is replaced with a new home loan that pays off the existing debt. Ideally, the new loan should offer you advantages like better terms or a chance to cash out some of your home equity, but there are a lot of variables to consider. When does it make sense to refinance?
You’ve Checked into Prepayment Penalties
A home loan with a prepayment penalty will cost you more if you pay it off early. As the Consumer Financial Protection Bureau points out, refinancing will trigger this penalty. If the savings are enough, it may still be worth it, but you’ll want to evaluate the situation with extra care.
You Want to Switch from an Adjustable-Rate Mortgage
Adjustable-rate mortgages, or ARMs, often seem like a fantastic deal at first glance because they offer low interest rates at their start. However, the initial introductory rate will end, and rates tend to rise after that. Some people struggle with that rise. Others find the inherent uncertainty of an ARM hard to live with. If either applies to you, refinancing to switch to a fixed-rate loan may make sense. As The Balance indicates, a fixed-rate loan provides stability because you have the same interest rate for the life of your loan.
You Aren’t Planning to Move
Refinancing has the potential to save you money, but it isn’t free. That’s why weighing the potential pros and cons is so important. How long you plan to stay in your home is one of the things that you need to consider. Why? As CNET explains, if you’re planning to move in a year or two, then it’s unlikely that you’ll be in the home long enough to recoup the costs involved in refinancing.
You Want to Tap into Your Equity
As Investopedia reports, refinancing allows you to access the equity that you’ve amassed in your home. A cash-out refinance can be a way to finance an education, home renovations, a new business, or investments. In other cases, it’s used to consolidate debt.
You Want to Transfer to a Loan with a Shorter Term
Many homeowners want to pay less interest over the life of their loan, but they don’t want to extend the life of that loan. As Credit Karma explains, refinancing into a home loan with a shorter term is often a way to achieve that goal. Homeowners can frequently snag competitive terms that produce significant savings over time, but it may come at a cost. Loans with shorter terms generally have low interest rates, but their tighter time frame tends to result in higher monthly payments.
You May Be Able to Lock in a Better Interest Rate
Mortgage rates rise and fall over the years, so what’s being offered now can be very different from what you’re paying. That can make the prospect of refinancing tempting. According to NerdWallet, there are a few different reasons why you might be able to lock in a better interest rate now than you were in the past. In some cases, it may be a change in the market that causes interest rates to fall and leads to new opportunities to lock in a better interest rate. In other cases, it may be that your situation has improved. You may have better credit, a stronger job history, or more income than you did when you first applied. It’s even possible that both the market and your circumstances could align to set the stage so that you could convince a lender that you deserve a better interest rate.