For potential savings, you should consider refinancing your home when interest rates fall significantly below your current mortgage rate.
Do you want lower interest rates, a shorter loan term and more affordable monthly payments? If yes, mortgage refinancing could be an option. But when should you refinance?
Most people will tell you to refinance your mortgage when interest rates have dropped 1-2% from when you opened your original home loan, but it’s not always easy. We spoke with Jason Lerner, a mortgage lender in the industry for 22 years, to find the perfect times to refinance and what you should know about the process.
When Should You Refinance a Mortgage
Here are some potential scenarios when you should consider refinancing your mortgage and some of the benefits of refinancing.
If Interest Rates Have Dropped
If interest rates are falling, refinancing may allow you to benefit from lower rates. For instance, if you have a $100,000 loan with a 30-year term at a 7% interest rate, your monthly payment is $665.30. If interest rates decrease to 6%, your monthly payment will decrease to $599.55.
However, Lerner cautions homeowners against refinancing just because interest rates have dropped. “If you’re now paying more principal than interest on your home loan, you’d be much better served continuing to make the current mortgage payments instead of switching to a new rate,” he says.
If you’ve determined that a lower interest rate is worth it, Lerner recommends acting quickly.
“The market has truly become unpredictable,” he says. “A consumer should move forward aggressively.”
If You Can Shorten the Term of Your Loan
If you have a 30-year mortgage and want to pay off the loan faster, you can opt for a 20-year mortgage through refinancing. Your monthly payments will increase, but you may qualify for lower interest rates. Paying off the loan 10 years earlier will also lower the total interest cost compared to the original loan term.
If You Need to Tap Into Your Home Equity
If you refinance your home for an amount greater than your existing loan balance, you may get the difference as a cash payment via a cash-out refinance. You can use the amount received from refinancing your mortgage for any purpose, such as making home improvements or buying another property.
To Get Rid of Private Mortgage Insurance (PMI)
Private Mortgage Insurance (PMI) can cost from 0.2 to 2% of your total loan per year, and you can eliminate this by refinancing.
There are generally two ways to cancel PMI. If interest rates are decreasing and you refinance your mortgage, lenders may cancel the PMI. You also have the option to refinance into a new loan with no PMI requirement.
Lerner says that while PMI may be an expense for some homeowners, the overall cost has declined in recent years. “For well-qualified borrowers, it’s become extremely affordable,” he says.
You may be better suited to finding solutions to more costly expenses, like your interest rate.
To Switch From an Adjustable-Rate Mortgage to a Fixed-Rate
Suppose you expect interest rates to increase as inflation rises. You may want to apply for refinancing to lock in the interest rate. Suppose your mortgage has an interest rate of 6% and economic forecasts expect the rate to increase to 8%. In this scenario, refinance now and lock in a mortgage at a lower interest rate to decrease the total interest paid on your mortgage.
To Add or Remove a Borrower
Refinancing your mortgage is an option when you need to remove or add a co-borrower. Some homeowners may add borrowers to access lower interest rates or remove borrowers due to a divorce or other life events.
In the case of a divorce, the separating couple will need to determine who’s taking on the loan. If that person can’t qualify for refinancing, Colorado-based mortgage lender Reed Letson recommends requesting a release of liability or finding a co-signer to secure more favorable terms.
“One thing to remember is that the divorce documents may stipulate how much time you have to get the current loan out of your partner's name, or they could force a sale,” Letson adds. “Remember to stay calm and level-headed during these proceedings.”
RELATED: What happens if I can’t refinance after divorce?
If You Need Cash for Large Expenses
Home refinancing lets you tap into your equity. You can get a larger mortgage and receive the difference in cash to cover large payments, such as the down payment on a second home, buying an investment property, making improvements to the property or paying off high-interest debt.
How Does Refinancing a Mortgage Work
Refinancing a mortgage works by replacing your original home loan with a new one with a lower interest rate or an adjusted loan term. People often refinance their mortgages to lower their monthly payments.
The second mortgage will be worth more than what you owe on the property and be used to pay off the first home loan. After closing, you’ll start making monthly payments on the new mortgage.
When Does Refinancing Make Sense?
- Current interest rates, your credit score and the type of mortgage you have are vital in determining the best time to refinance.
- Refinancing a mortgage makes sense only if the benefits outweigh the costs of getting a new mortgage.
- In some cases, refinancing your mortgage doesn’t make financial sense.
Why You Should Trust Us
Benzinga has offered investment and mortgage advice to more than one million people. Our experts include financial professionals and homeowners, such as Anthony O’Reilly, the writer of this piece. Anthony is a former journalist who’s won awards for his coverage of the New York City economy. He’s navigated tricky real estate markets in New York, Northern Virginia and North Carolina.
For this story, we worked with Jason Lerner, the area manager for First Home Mortgage and a 22-year veteran of the mortgage industry, and Reed Letson, the owner of Elevation Mortgage.
Frequently Asked Questions
At what point is it worth it to refinance?
Refinancing is worth it if you adjust your interest rate or loan term and lower your monthly payments.
At what percentage should I refinance my mortgage?
Most experts say you should refinance when rates drop 1-2% from your original home loan. So, refinancing may be a good idea if your mortgage has an 8% interest rate and rates are now closer to 6%.
What credit score should I refinance at?
Homeowners with credit scores of 700 and higher are more likely to secure more favorable terms than those with credit scores below 700.
Sources
- Jason Lerner, area manager for First Home Mortgage and a 22-year veteran of the mortgage industry
- Reed Letson, owner of Elevation Mortgage
About Anthony O'Reilly
Anthony O’Reilly is an updates editor for Benzinga. He’s won numerous journalism awards for his coverage of the New York City economy and Long Island school district budgets.