This was originally published on Monday, March 3, 2014, in the Pacific Daily News. Click here to subscribe to the PDN.
Question: I purchased my home at a higher interest rate than what is being offered now. Is it a good idea to refinance my mortgage loan?
Answer: Mortgage interest rates still are at an all-time low and refinancing your mortgage can be a wise choice. Refinancing simply means paying off an existing loan and replacing it with a new one. Some people refinance their loans to take advantage of lower interest rates resulting in lower monthly payments, shorten the term of their loan, convert from/to an adjustable rate or fixed rate, consolidate debt, or to take advantage of the their equity. You can refinance your home, your car or even other loans such as student loans. But before you do, there are a few things to consider:
• Ahead or break-even
Your break-even point is the time it takes to recuperate your costs associated with the refinance. To calculate your break-even point, divide the total costs of the refinance by the monthly savings on the new loan. Your answer will result in the number of months that would be required to recoup the cost. For example, if it costs you $3,000 to refinance and you are saving $125 per month; your break-even point is 24 months, or two years. There are online refinance calculators that can help. There is no magic maximum payback period that makes refinancing worth it. Usually, two to three years to pay back the costs is considered reasonable.
• Cost, fees and penalties
Check with your bank if there are fees associated with refinancing. Refinancing a home incurs many of the same fees you did when taking out the mortgage. In general, you may be charged an application fee, title insurance/search, closing costs, attorney fees, application fee or a penalty for early payment of your current loan. If you purchased points to lower your interest rate, add that cost in as well. Be sure to add all these extra costs when calculating your break-even point. You can roll these costs into your mortgage, but then you will be paying interest on them, which may negate your refinance goals. If you are refinancing with the same lender, ask what fees can be waived.
• Credit score
Before starting the process of refinancing, take a look at your credit score. Your credit score will affect the rates that you will be offered. If you do not qualify for the lowest rates it may not be worth refinancing. A credit score that is above average or high will certainly help. Even if you have a lower credit score, talk to your lender to see what rates they can offer you.
You need to stay in your home for at least the amount of time you need to break-even. If you are planning on moving and selling your home shortly after refinancing, it may not be worth it. Also, if you have refinanced your home previously, look at the added time it takes to pay off your loan. Each time you refinance, you are starting the clock over again. If you are close to the midpoint of your current loan, you may be increasing the amount of time to pay off your loan. This could mean more interest paid.
The bottom line is refinancing can be a way to save money if done properly. Talk to your bank, shop for the best rates, know your break-even point, and improve your credit score.
Michael Camacho is president and chief executive officer of Personal Finance Center. He has more than 20 years of experience in retail banking and at financial institutions in Guam and Hawaii. If there is a topic you’d like Michael to cover, please email him at firstname.lastname@example.org and read past columns at the Money Matters blog at www.moneymattersguam.wordpress.com.