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Is It Time to Refinance Your Mortgage? Here's How to Know

Doug Whiteman
Is It Time to Refinance Your Mortgage? Here's How to Know

Have you been paying attention to mortgage rates? They're the lowest in years, and they've fallen so far in a relatively short time that it might make sense to refinance to a lower rate and cut your monthly payment — even if your current home loan is only a year old.

Refinancing also is a great way to tap into a home's rising value. Multiple studies indicate that home values nationwide have recovered so well that they're now higher than they were before the Great Recession.

You may be ripe for a refi. Ask yourself these questions to know if it's the right move.

Why do you want to refinance?

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A refinance can be a great way to cut your monthly mortgage payment.

We've already mentioned two excellent reasons: 1) You want to take advantage of today's low mortgage rates; and 2) You want to cut your monthly mortgage payment.

Thanks to falling rates, homeowners who refinanced in the spring of 2019 are saving an average $1,700 a year, or about $140 a month, says Freddie Mac.

Another great reason to refi is if you have a variable-rate mortgage and can lock in a low fixed rate.

Adjustable-rate mortgages — or ARMs — often have attractive rates to start, but your interest rate can rise after the introductory years are over. With a fixed-rate mortgage, there are none of those sorts of surprises.

Be careful about refinancing if your goal is to cash out some equity to pay other bills. If you have as much trouble with the refi as you did with the other debt, you could wind up losing your house. 

Plus, under the 2017 tax law, the interest on the cash-out portion of the loan probably isn't deductible if you use the money to pay down other debt.

Can you dump your current loan?

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Make sure your lender will let you out of your existing mortgage.

Your existing mortgage loan may carry a penalty if you pay it off early, like during the first few years.

These prepayment penalties aren't common, though you might find them with interest-only mortgages and other unconventional loans. The cost could make you decide quickly against a refinance.

Also, some local government grant programs, such as for fixer-uppers or first-time homebuyers, carry special terms that can make refinacing difficult.

You might have to jump through lots of legal hoops that are in place to prevent house flippers from using the grants to buy properties they intend to resell quickly.

Read your loan documents carefully to find out if you have a prepayment penalty or other refi restrictions. 

Would the lower rate really save you money?

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Calculate whether a refinance makes financial sense.

When you refinance to take advantage of a lower interest rate, you could cut your monthly payment — but wind up spending more over the long run.

If you have a 30-year mortgage and have made payments for 15 years, refinancing into a new 30-year mortgage would saddle you with tens, maybe hundreds of thousands of dollars in additional interest charges if you stick with the new loan for its entire term.

Under that scenario, the smart move would be to refinance into a 15-year mortgage. Though you may wind up with a higher monthly payment, you'll pay far less interest.

Closing costs are another consideration to balance against a lower rate. Across the U.S., borrowers paid mortgage closing costs averaging $5,779 in 2018, according to the real estate data firm ClosingCorp.

If you save $100 a month in interest but the refinance costs you $5,000 at the closing table, it will take over four years to recoup that expense with the money you're saving.

And that brings up another important point: Think hard about how long you plan to stay in the home. If there's any chance you might be moving in a year or two, it may be difficult to make back the costs.

The bottom line

A mortgage refinance can provide savings and financial flexibility to homeowners. Proceed with caution, be informed of the new loan's terms, and take a close look at your existing loan so you understand the true cost of a refi. 

Check today's best mortgage rates where you are.

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