Should You Refinance Your House Now?

Here is my financial tip of the month!  Make sure you check mortgage rates to see if you should be REFINANCING now!  Rates fell precipitously last year and then popped up.  Now they are giving you another chance to lock in these low rates before the economy rebounds.  A few weeks ago the Wall Street Journal noted that 1 in 4 homeowners could benefit from refinancing.  Since that article was published the Fed has cut interest rates another 50 basis points and done away with the 30-year bond.  These moves have once again pushed Interest Rates down to levels not seen in a very long time.

Rates have been very volatile lately and no one knows how long this window of opportunity will be available.  Imagine if you could lower your payment several hundred dollars a month.  If you then chose to invest that money monthly over the life of your loan, what would it be worth?  Depending on the type of loan you select, you should be able to find a rate somewhere between 5 ½ and 7 percent.

Several questions you need to consider:

  1. Do you pay PMI?
  2. Do you have a second loan on your house at a higher interest rate?
  3. Do you have an adjustable rate mortgage?
  4. Is your loan balance over $150,000?
  5. Has your house appreciated?
  6. Do you have car loans or credit card loans at interest rates higher than 6.5%?

If you answered YES to any of these questions, you need to review your numbers to see if refinancing makes economical sense for you.

Here’s the scoop:  The bigger the balance on your mortgage, and the longer you have until the loan is paid off, the less you need interest rates to drop to make refinancing save you money.  A good rule of thumb is if rates drop over 1% point you should evaluate the numbers.  2% you should usually refinance.  That means if your combined interest rate is more than 7.5% you should check your options.  Fees for refinancing are typically 1-2 ½ % of the total loan value, and can be rolled into the loan, all of which is tax deductible.

If you are in the 28% tax bracket and you refinance at 6.5% then after the tax deduction you are effectively borrowing money at 4.68%.  As long as you can get more than 4.68% on your investments after taxes you are creating positive wealth.

If you are thinking about getting a shorter-term loan like a 15-year note be sure you evaluate the opportunity cost of putting the extra money into your house.  When you have equity/money in your house it is only doing one thing, if you invest the money and use the income off the investments to help make the house payment you have more flexibility, a little more risk, but you have the potential to create much more wealth.  Let’s think about it:  A 30 year payment will be less than a 15 year payment so you have more discretionary money per month.  You also have a larger tax deduction, which gives you even more discretionary income.  The appreciation on a home is the same regardless of whether or not you have a 30 or 15 year note.  If invested properly the invested difference should be worth more than the balance owed on the home.  If at any time you lost your job or needed the money it would be more accessible than having to somehow get the money out of the house.  The key is to have discipline.

One more thing to consider:  What type of loan should you purchase?  The standard product is the 30-year fixed mortgage or the 15-year mortgage, which is often used to help pay off your home mortgage faster.  Another often overlooked loan is the 3, 5, 7, or 10 year ARMs {Adjustable Rate Mortgages}.  If you don’t plan on living in or keeping your home more than 3, 5, 7, or 10 years, then you probably should not get a 30-year note because you are paying a higher interest rate for no real economic benefit.  An ARM will guarantee you a fixed rate for the specified period of time, then it will adjust based on a predetermined benchmark like the 10-year treasury.  With the drastic rate cuts the yield curve has normalized meaning that short-term rates are cheaper than long-term rates.  So, if you don’t intend to live in your house long-term, save some money and buy a shorter-term loan.  If you want someone to help you crunch the numbers to see if refinancing makes sense, call my office and we will help determine which decisions will allow you to reach your goals.