When Should You Refinance Your Mortgage?
Listen to Best in Wealth Podcast Episode 153
I often get asked, “Should I pay off my house early?” and “Should I refinance my mortgage?” So in this episode of Best in Wealth, I answer those two questions. But to answer those questions, there are a few other questions YOU have to consider. What are they? How do they influence your decision? Which route should you take? Listen to find out!
Outline of This Episode
- [1:06] Should I pay off my house early?
- [3:57] How to determine if you should refinance
- [8:10] Which loan option is the best choice?
- [9:27] What are your needs or goals?
- [15:10] The obstacles faced with a 15-year mortgage
- [17:12] The two refinancing strategies to use
What does paying off your mortgage early really mean?
I like the idea of paying off your home and reaching financial freedom—but what does it actually mean? Interest rates are as low as they have ever been. If you have got a great credit score and 20% down, you are going to get a low interest rate. Possibly under 3%, depending on where you live.
But if you took that same money and invested it, you could reasonably expect a 10% annual return (based on the history of the S&P 500 index). So you might say that your money is better off in the market from a net worth standpoint.
But others may prefer the peace of mind of paying off their home. If you retire and your house is paid off, it helps your retirement projections. It feels good and it means freedom. Do you want freedom? Or do you want a higher rate of return on your money?
How to determine if you should refinance
If you are considering refinancing, there are some questions you need to ask yourself first:
Do you plan to remain in your home for a few years? If the answer is no, the cost may exceed any benefit. If you save $50 a month in interest by refinancing, but you plan to sell in 2 years, 50x24 months is a savings of only $1,200. If it costs you $2,000 to refinance, you probably should not refinance—you will be losing $800 in that deal.
Are you nearing a milestone event? Retirement? The end of an adjustable-rate mortgage (ARM) or balloon term? If the answer is yes, consider refinancing before your options become limited by income restraints. At that point, you might not qualify to refinance.
Is your loan to value ratio greater than 80%? If the answer is yes, you do not have 20% down on your home and will have a hard time refinancing. You will still be subject to (private mortgage insurance) PMI.
Has your credit score recently improved? You may be in the category of wanting to refinance. Are you locked into a fixed rate? Do you expect the rates to go up or down from here? They will probably go up from here. If you are in an ARM, it might be time to lock in a fixed-rate now.
What’s the interest rate environment? The interest rates have gone down in the last few months. After answering all of these questions, if you are still in the category of, “Yes, I think I want to refinance.” then you need to look at what loan is the best for you.
Which loan option is the best choice?
If your current interest rate is 3.5%, how much lower does it have to be to be worth it? If you can lower your rate even half a percent, then you are winning. But you need to seek loan terms that best match your needs and goals. So—what are your needs and goals?
- Are you a veteran? Do you live in a rural area? Do you have a lower credit score or income? Then a VA loan, a USDA loan, or an FHA loan may work for you. They can offer lower down payments, good rates, and relaxed guidelines.
- Is your primary goal to reduce your monthly payment? If yes, consider a thirty-year fixed-rate mortgage. You will have a lower monthly payment. But the caveat is that it adds another 30 years to pay off your home.
- If you have excess income and want to reduce your interest expense over the life of the loan, consider a 15-year mortgage. This is the happy medium that can pay off your house early. It also allows you to invest some while paying more on your mortgage.
Keep listening as I take a deep-dive into the pros and cons of a 15-year mortgage—and paying off your home early.
Two ways to refinance your mortgage
There are two different places you can go to refinance your home. The first is a local bank or credit union. You can obtain a closing cost and interest rate from them. NOTE: Different banks charge different rates at different times. Do your homework and get multiple opinions.
Secondly, you can go to a mortgage broker. They have relationships with numerous banks. They will work to find you the best interest rate and closing costs at all of the banks they have relationships with. If you can find multiple mortgage brokers who have relationships with different banks, you can choose from 10+ different closing costs and interest rates to get the best deal.
The bottom line? Always figure out where your break-even point is before you make a decision (i.e. how much you will save offset by the closing costs). If you are saving $100 a month and the closing costs are $500, you break even in 5 months. Do your homework, get multiple opinions, and talk to your financial advisor. To hear my full thoughts on paying off your home early and your refinancing options, be sure to listen to the whole episode!
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The Best In Wealth Podcast is hosted by Scott Wellens. Scott Wellens is the principal at Fortress Planning Group. Fortress Planning Group is a registered investment advisory firm regulated by the Securities Act of Wisconsin in accordance and compliance with securities laws and regulations. Fortress Planning Group does not render or offer to render personalized investment or tax advice through the Best In Wealth Podcast. The information provided is for informational purposes only and does not constitute financial, tax, investment or legal advice.