Is Mortgage Refinance a wise financial move?
September 5, 2007
Are you looking forward to get extra cash, save more and pay off all your debts? Or, do you wish to replace your current mortgage with a new loan having more favorable loan terms. There’s a way out by which you can fulfill all such needs - a process called refinance (or refinancing). It gives you the chance to pay down your current home loan from the funds offered in a new loan against the same property as the collateral.
For example: Mr. X and Mr. Y both took a mortgage loan worth $400,000. After 4 years, both of them paid off $200,000. Mr. X then took another home loan worth $200,000 in order to repay the existing balance on the loan.
On the other hand, Mr. Y opted for a second home loan worth $300,000 in order to repay the unpaid loan balance which is $200,000. Mr. Y could use the remaining balance in order to fulfill other financial obligations.
The first case is regarded as mortgage refinancing and the second where the new loan amount is higher than that of the existing loan balance, is a cash-out refinancing.
6 Reasons for you to Refinance
You want to save more
Reduce monthly payments by getting a lower mortgage rate or a longer loan term. In the second case, your monthly savings increase but you will be paying a larger amount of interest for the life of the loan.
You want to pay down your mortgage quickly
Shorten the length of your mortgage by reducing the period of repayment. Monthly payments will no doubt go up, but you will be able to save more in the overall interest payment. Moreover, it will allow you to get home ownership in a short time.
You need extra cash
Borrow more than the unpaid loan balance if you have enough home equity. With the extra cash, you can pay off high interest debts such as credit card balances or installment loans. You gain out of it as the interest on these debts are not-tax deductible unlike the mortgage interests.
You wish to pay off a high interest second mortgage
If there’s enough equity at your home, you can refinance your second mortgage and combine both the loans into a single loan. The monthly payment on the new loan is likely to be lower than the combined payments on the first and second mortgages.
You want to convert from an ARM to an FRM
This allows you to lock in at a low rate. You can thus repay the loan with stable monthly payments rather than variable payments throughout the life of the loan.
You want to get rid off PMI
If your current loan balance is below 80% of the new appraised value of your home, you can refinance and stop paying PMI.
When to refinance your current loan
Refinancing can be a way out to keep you from making higher payments but you can only get the maximum benefits when you’re into the process at the right time. Here are a few conditions under which you may seek a refinance loan.
You have the home equity to help you borrow
It is feasible to can go for a refinance when you have built up at least 10% equity in your home (For Fannie Mae owned mortgages, the value is 5%). It is also possible for you to choose the option if your equity is less than 5%, but you may have to pay a certain amount of cash in order to make up for the difference in the equity.
You find that current market rates are low
It’s better to follow the 2% Rule which suggests that you can enjoy the benefits of a refinance if you can secure an interest rate 2% below the rate on your current loan. The interest savings will help you to recoup the costs you’ve paid for the new loan provided you stay in the property for a certain period of time (break-even period).
However, there are no-cost as well as low-cost refinance loans wherein the costs are included into the loan. You can expect a slightly higher rate on such a loan but if it’s lower than your current rate, then it’s still a suitable choice.
You haven’t been late on the payments
There is no such limit on the number of times you can go for a refinance. Most lenders prefer that you have no late payment for the past 12 months before you switch over to a new loan.
When not to refinance
Refinancing does not make sense under the following situations:Your property value has gone down
If your property value reduces and you refinance up to 80% of the reappraised value, your original mortgage amount may be higher than this amount. Thus, the new loan will not be sufficient enough to help you pay down the existing one.
You are paying off the first loan for a long time
If you are making payments on a long term loan, say, a 30 year mortgage for the past 10 to 20 years, then refinancing to another 30 year loan will not be a good option as it may increase your overall payment.
Your credit profile isn’t impressive
If you have messed up with your credit by delaying payment on loans and bills, there is hardly any chance that you will qualify for a low rate mortgage. Off course there are lenders in the subprime market, but it’s better to avoid them as they’ll possible charge you with higher rates and fees.
You have used up enough equity in your home
Refinancing may not be that useful if you have already used up 90% or more of your home value in taking out a mortgage or any home equity loan. You won’t be able to get the best rates available in the market as when you refinance a 90% LTV loan, you will probably require a loan of that value or higher. This will be quite closer to being a 100% financing option and hence the rates will be comparatively higher.
You have a few years left on the current loan
If there is only a few years left on your current loan, then there’s not much use refinancing it with a long term loan. You may need extra cash but with a long term loan, you may end up paying more throughout the loan period. In this case, if you do not move according to a planned budget then it will be hard to carry out your day to day expenses.Refinancing will make sense if you are into it for the right reasons and at the right time. You need to decide upon the various ways of refinancing and the possible loan options that will suit your needs and fit into your situation.
Related Readings How to refinance your current mortgage Which is the right time for Refinance? Mistakes in Refinance committed by mortgage seekersRelated Forum Discussions Should I need a title insurance at the time of refinance? Is it possible to refinance after bankruptcy? Should I refinance my home to consolidate the debts? Can i refinance my home which is filed for Federal tax lien? Is the cash from Refinance - Taxable?Is it possible to combine ARMs and then Refinance?
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