The Real Deal
Refinance home only when it makes cents
By John Carman
How low do interest rates have to go before refinancing your home makes sense? If you currently carry a mortgage with an interest rate of 8.5 percent or higher, the Federal Reserve's recent rate drops may "hit home"--offering many of you benefits that directly impact your wallet. Considering refinancing, but not sure if it is the right option, right now? Here is a recommendation of when it makes sense for you.
As with gasoline, food and medicine, money is a commodity--which means, like all commodities, money has a price. The price of the money you borrowed to buy your home is the interest you pay through installments every month.
What does the recent decline in interest rates mean to you--assuming you already have a mortgage and are already making monthly payments on your home? It means refinancing is an option that may allow you to reduce your monthly mortgage payments. With a mortgage refinance, you are actually repaying your existing home loan and borrowing new money to pay for your house at a lower price.
If refinancing your existing mortgage sounds like a great concept, it is, but it is not for everyone. Because refinancing involves closing costs, which are additional costs associated with processing a new loan, it only makes sense to pursue this route if you refinance for an interest rate that is at least 1.5 percent lower than the current interest rate of your loan and only if you are planning to stay in your home for a minimum of three or more years.
How can a homeowner determine if refinancing produces a justifiable savings? Let's assume you hold a 30-year, $400,000 mortgage with an interest rate of 8.75 percent. You are currently paying $3,146 in monthly principal and interest. Based on an interest rate of 7.25 percent, refinancing a $400,000 loan would result in a reduced monthly payment of $2,728, or a monthly savings of $418. Now let's assume the closing costs to secure the new loan are $3,500. Is it worth refinancing? Yes, because the monthly savings of $418 amounts to $15,048 in savings over three-years, which exceeds the $3,500 in upfront closing costs. In fact, this refinancing pays for itself in just nine months. Over the life of a 30-year loan, this refinance will save a whopping $150,480.
Obviously, in this case, it would make sense to refinance. To apply this example to your specific mortgage values and see if it makes sense for you, check with your Realtor, financial advisor or local mortgage broker.
John Carman is the manager of Coldwell Banker Northern California's Los Gatos office. Information provided in this column is presented by the Realtor members of the Silicon Valley Association of Realtors. Send questions on any topic to: Real Deal, c/o SILVAR, 345 San Antonio Road, Los Altos, CA 94022; call 650-949-9115; or email to ppompei@siliconvalley-realtors.org.
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