How To Refinance Your Mortgage and Pay Less
Refinancing a mortgage can help you pay less in most cases. Refinancing can help you acquire a lower interest rate, abbreviate the mortgage term or switch to a different type of mortgage, such as from a fixed-rate to an adjustable-rate mortgage. If you have equity in your home, you can refinance to liquidate some of that equity and pay for a significant purchase or consolidate debt. You can save a considerable amount of money by refinancing your mortgage. This guide will show you how to do so.
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Lower Your Interest Rate
When you refinance a mortgage, you can get a new loan with a lower interest rate. That means you’ll save money paying back the loan over the long term and build equity in your home faster. You’ll also often be able to lower your monthly payments by refinancing. In the past, banks only suggested refinancing if you could lower your interest rate by 2 percent or more, but now it is recommended to refinance even if you can save only 1 percent.
Lowering your interest rate by more than 2 percent can significantly reduce your monthly payments, however. A $100,000 mortgage financed at 9 percent has a monthly payment of just over $800. Refinancing at 6 percent will lower your payment to about $600 a month.
Shorten the Term of the Mortgage
You can also refinance your existing mortgage for another mortgage with a lower interest rate and a shorter term. It won’t change your monthly payment considerably, but you’ll pay less over the course of the mortgage. For example, refinancing a $100,000 home at a 4 percent drop in interest and changing the term from 30 to 15 years will result in a similar monthly payment. However, you’ll be paying less money toward interest, and you’ll pay off your loan much sooner.
Switch to a Different Type of Mortgage
If you are currently paying on an adjustable rate mortgage, or ARM, you may have started out paying a lower interest rate, but over time, the rate may have increased to well above the rate of a typical fixed-rate mortgage. If your ARM currently has a high interest rate, you can refinance in order to convert to a fixed-rate mortgage. You’ll usually save money on interest immediately and you’ll have security knowing the rate will never increase.
On the other hand, if you currently have a fixed-rate mortgage, you may save money by converting to an ARM. If you’re in an environment in which interest rates are falling, the rates on an ARM may also decrease. If you are planning on moving in a few years anyway, take advantage of this short-term strategy to lower your interest rates. By the time the market changes and rates go up again, you’ll be selling the house anyway.
Liquidate Your Equity and Pay Less Each Month
If you have high-interest debt or need to pay for a large purchase, such as remodeling your home or providing your child with orthodontia, you can tap into the equity in your home, get cash, and also lower your mortgage payments. Refinancing at a lower rate will save you money on monthly payments, but you’ll have to make sure you’re not taking out a loan that negates your savings. To get cash from the equity in your home, you’ll need to refinance a larger sum than what you currently owe on the mortgage. You can balance that out if you can lower your interest rates. Don’t increase your mortgage so much that your payment will be more, or the point of refinancing will be wasted.
Improving Your Net Worth
Even if it helps you save on your monthly payments, refinancing doesn’t always save you money over the long term. Calculate the payback period to determine if you’re really improving your total net worth by refinancing. Because closing costs and points may increase the total you’re refinancing, you’ll need to figure out at what point the savings make it worth paying those additional costs. To calculate the payback period, add up the amount of money you’ll save in monthly payments by refinancing. Analyze how many months it will take for that sum to equal the refinancing costs. That’s the payback period. You won’t truly begin to save money until the payback period is over. As long as you plan on staying in your home longer than the payback period, refinancing may be a wise option to help you save money.
What Does Saving Mean to You?
If you’re trying to pay less by refinancing, you have to determine whether it’s more important to pay less on a monthly basis or to pay less over the life of your mortgage. If household cash flow is an issue, you may be satisfied with lowering your monthly payments even if you’re extending your mortgage term and paying more in total over that course of time. However, if you can afford your current monthly payments, it may be more significant for you to save money over the long term by maintaining the same monthly costs and decreasing your mortgage term.
How do you decide whether you should refinance to lower your payments? First, determine how you will repay the mortgage. If you’re increasing the loan amount to pay for home renovations, the resulting increase in your home’s value will give you the money to pay it off when you sell the house. If you are increasing the amount you’re mortgaging in order to pay for another expense, ensure that the lower interest rates will make the increased debt worth it for you. Some refinancing options offer you lower closing costs, which can also help you pay less.
Refinancing is a great way to reduce your mortgage payment, shorten your mortgage term, or build equity more rapidly. You can control your other debt by refinancing your house as long as you’re careful. Before refinancing, evaluate your financial situation carefully, taking into account your current monthly payment, current interest rate, how much longer you will stay in the home and how much money you will save on refinancing.