Refinancing: Is it suitable for you?
What is Refinancing?
Before we start discussion on why people refinance, it is important to
understand what does refinancing means. Refinancing a mortgage means paying
off an existing loan by financing the amount through another loan.
Why do people refinance: Get rid of Mortgage Insurance, Shorten the length
of the loan; get lower interest rates; borrow money from home equity to be
used for construction, investment, debt consolidation; convert loan from ARM
to fixed rate or vice versa .
Some of these motivations have benefits and pitfalls. And because
refinancing can cost 3% to 6% of the loan's principal and – like taking out
the original mortgage –requires appraisal, title search and application
fees, it's important for a homeowner to determine whether his or her reason
for refinancing offers a true benefit.
Removing the PMI
This may not be a very common reason in a stagnant market but we have
seen this commonly in the growth market. Most of the people buy the house by
contributing 5-10%. The property prices in the last 5 years (2012-2017) have
grown significantly that many people have more than 20% equity in their
house as per current appraised value but are still paying PMI. People
approach us to check if they can stop paying PMI if they refinance which can
be a significant savings over the period of the
One of the best reasons to refinance is to lower the interest rate on your
existing loan. Historically, the rule of thumb was that it was worth the
money to refinance if you could reduce your interest rate by at least 2%.
Today, many lenders say 1% savings is enough of an incentive to refinance.
Securing a Lower Interest Rate
Lowering the interest rate is considered one of the most important reason
for refinancing. Why won’t you like to save when you can do it without
paying anything. Someone has said “Dollar saved is dollar earned”
Reducing your interest rate not only helps you save money, it also increases
the rate at which you build equity in your home, and it can decrease the
size of your monthly payment. For example, a 30-year fixed-rate mortgage
with an interest rate of 4.50% on a $500,000 home has a principal and
interest payment of $2,937.57. That same loan at 4.00% reduces your payment
to $2840.40. So you save $100 per month or $1,200 in a year. This could be
significant saving and can be used to pay the insurance cost on the house.
If you want to know more, you can call Sudhir Agarwal at 770 289 0370 to do
a free assessment of your current situation.
Changing the Loan's Term
The other reason why many people refinance is to change the payment
term. The Mortgage for the house is constant over the period though the
income keeps rising. In the later stage of the life of loan, people are able
to afford higher payments and want to convert their loan from 30 years to
say 15 years. Note that many people do it other way around also so that they
can use the extra cash for some other purpose.
Converting Between Adjustable-Rate Mortgages and Fixed-Rate Mortgages
Historically, ARMs (Adjustable Rate Mortgages) have been lower than the
fixed-rate mortgages. While ARMs generally start out offering lower rates
than fixed-rate mortgages, adjustments often result in rate increases that
are higher than the rate available through a fixed-rate mortgage. This
generally occurs in an increasing rate market. When this occurs, converting
to a fixed-rate mortgage results in a lower interest rate and eliminates
concern over future interest rate hikes.
Alternatively, many people convert from fixed-rate loan to an ARM,
especially in a falling interest rate environment. If rates continue to
fall, the periodic adjustments on an ARM result in decreasing rates and
smaller monthly mortgage payments, eliminating the need to refinance every
time rates drop.
Also, we have seen clients for whom ARM makes more sense to start with
because of the interest rate difference. A client I was recently working
with was not a citizen/ Permanent resident and for Jumbo loan, the interest
rate that was offered to him was high (since very few banks do Jumbo loans
for non-citizen/ non-permanent residents. Looking at all options, we had to
suggest 5/1 ARM to him.
Consolidating Debt by tapping into Home Equity
Though this is another major reason people specify to go for refinance,
it should be avoided if possible.
Homeowners often access the equity in their homes to cover expenses, such as
college expenses, buying new car, cost of home remodeling. These homeowners
may justify such refinancing by pointing out that remodeling add value to
the home or that the interest rate on the mortgage loan is less than the
rate on money borrowed from another source. Another justification is that
the interest on mortgages is tax deductible. While these arguments may be
true, increasing the number of years that you owe on your mortgage is rarely
a smart financial decision, nor is spending a dollar on interest to get a
30-cent tax deduction.
Many homeowners refinance to consolidate their debt. At face value,
replacing high-interest debt with a low-interest mortgage is a good idea.
Unfortunately, refinancing does not bring with it an automatic dose of
financial prudence. Take this step only if you are convinced you'll be able
to resist the temptation to spend once the refinancing gets you out from
under debt.
The Bottom Line
Refinancing can be a great financial move if it reduces your mortgage
payment, shortens the term of your loan or helps you build equity more
quickly. When used carefully, it can also be a valuable tool in getting debt
under control. Before you refinance, take a careful look at your financial
situation and ask yourself: How long do I plan to continue living in the
house? And how much money will I save by refinancing?
It also pays to remember that a savvy homeowner is always looking for ways
to reduce debt, build equity, save money and eliminate that mortgage
payment. Taking cash out of your equity when you refinance doesn't help you
achieve any of those goals.
If you want to get a FREE ASSESSMENT of your current situation and
understand if you should be going for refinance or not, feel free to call
Sudhir Agarwal @ 770 289 0370 or you can also mail him at Agarwal.sudhir@gmail.com