With mortgage rates so low, does it make sense to refinance?
Historically low mortgage interest rates have prompted many homeowners to think seriously about refinancing, but there is a lot you need to consider before filling out a loan application.
Start by determining why you want to refinance. Is it primarily to reduce your monthly payments? Do you want to shorten your loan term so that you can save interest and possibly pay off your mortgage earlier? Are you interested in refinancing from one type of mortgage to another (e.g., from an adjustable rate mortgage to a fixed-rate mortgage)? Establishing a goal will help you determine if refinancing makes sense for you and which type of loan will best suit your needs.
Keep in mind that the low mortgage rates that are advertised are not available to everyone. To get the best rate, you will need to meet the lender's criteria. For example, you generally need to have an excellent credit score, stable income, and substantial equity in your home – e.g., 20% or more. The type and length of the loan will also affect the rate you receive – in general, the shorter the loan term, the lower the rate. Advertised mortgage rates sometimes also include points that you will have to pay to obtain the lower rate – each point is equal to 1% of the mortgage amount. Because so much can affect the rate you receive, it is important to shop around and compare interest rates, loan terms, and costs to make sure you are getting the best deal.
Finally, you will need to consider refinancing costs as well as the new interest rate you will receive. Refinancing costs may include points, closing costs, and private mortgage insurance premiums, if any, that you will have to pay when you take out the new loan. Will you be able to recoup these costs while you still own the home? To calculate this, divide your total refinancing costs by the monthly mortgage payment savings you will realize by refinancing. The result indicates how many months you will need to stay in the home to recoup your costs. If you do not plan to remain in your home long enough to recoup your costs, then refinancing may not be worthwhile, no matter how low your new interest rate is.
If I owe more than my home is worth, will I be able to refinance?
Home values across the country have declined, and many homeowners owe more on their mortgages than their homes are worth. When you are "underwater" on your mortgage, it may be possible to refinance, but it will depend on your circumstances and the type of mortgage you have.
Refinancing an underwater mortgage is usually difficult, because lenders generally require that you have equity in your property. However, if you meet certain criteria, you may be eligible to refinance your mortgage through the federal Home Affordable Refinance Program (HARP). This program targets homeowners who are underwater but who are having no trouble making their mortgage payments.
To qualify for HARP, your mortgage must be owned or guaranteed by Freddie Mac or Fannie Mae, and you must be current on your mortgage at the time of the refinance. In addition, you must have made no late payments within the past six months, and no more than one late payment in the past twelve months. Other eligibility criteria also apply.
To find out if you are eligible for HARP, start by verifying that your mortgage is backed by Freddie Mac or Fannie Mae. You can do this by visiting www.freddiemac.com or www.fanniemae.com and using their lookup tools. Once you have established that your mortgage meets this basic criteria, contact your current lender or other lenders to see if they offer HARP refinances - not all lenders do. For more information about HARP, visit www.makinghomeaffordable.gov.
Another option you might have is a cash-in refinance. With this type of refinance, you bring cash to the closing to reduce your mortgage balance and increase your home equity, enabling you to meet the lender's loan requirements. Underwater borrowers who can also afford to refinance to a shorter loan term (e.g., from 30 to 15 years) might especially benefit because they may boost their equity stake more quickly. However, home equity is not liquid and it's possible that home values will continue to decline, sinking borrowers further underwater, so a cash-in refinance is only an option if you have substantial savings and can ride out the ups and downs of the housing market.
Contact the Certified Financial Planners at New Wealth Advisors to decide what may be the best in your particular situation.