Can refinancing your home can save you money? Although this holds true for most cases, timing is necessary in refinancing for it to yield lower monthly payments. An experienced mortgage broker can help you find better deals and navigate the application process, but you also have to do your own legwork in determining when the best time is to refinance.
When it will reduce your interest rate
One of the best reasons to refinance is to lower the interest rate on your current loan. A lower interest rate means lower monthly payments, so it can help you save money. It also reduces the overall amount of interest you pay throughout the life of your loan.
For example, you have a 30-year mortgage on your $100,000 home with an interest of nine percent, so your monthly payment is $804.62. You can reduce this to about $461 if you refinance that same loan at a 4.5 percent interest.
A two percent reduction in interest rate is a good incentive to refinance, according to most lenders. You can use this NerdWallet calculator to know how much you can save by refinancing.
When you need to adjust your loan term
A shorter loan term is also a good reason to refinance, even if it won’t reduce your interest rate. This means you can pay off your debt faster and save money on interest over the life of the loan. But it’s important to note that a shorter loan term may increase your monthly payments.
On the other hand, you can also get a longer-term loan in case you encounter unexpected expenses and need lower monthly payments. Since you’ve reduced the money you owe on your home with your previous payments, you only need to borrow less money when you refinance. Your monthly payment will be smaller if you spread this amount over a new, longer-term loan – either 15 or 30 years.
When your credit score has gotten better
Your credit score is the major determinant of your interest rate; the better your credit score, the lower the percentage will be. The previous scenario partly rests on whether your credit score has improved since the last time you got a loan.
It’s likely that your interest rate is higher than ideal if your credit wasn’t good the first time you bought a house. Refinancing can give you a better interest as long as you’ve taken steps to improve your credit health.
When you need to tap into your home equity
Equity is the portion of your property that you already paid off. It’s the accumulation of the money you’ve invested on your home, including the mortgage payments and down payments. Your equity increases as you pay your loan balances. But it can also rise when your home gains more value or when the real estate market is healthy.
You can take partial or lump-sum withdrawal from your equity through a cash-out refinance. This means getting a mortgage for a larger amount than your current loan. The new loan will pay off your remaining balance and then you will receive the rest of the amount in cash.
Keep in mind that your home equity is an asset. Think twice if you desperately need the extra money now or if you can save it for a more important purpose.
Refinancing has risks, too. It can include hidden closing costs and may reset your amortization schedule. Input your loan term, closing costs, remaining balance, and interest rate in a spreadsheet or refinance calculator to see if the potential deal can save you money in the long run or will only put you in deeper debt.