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March Planning Topic: Should I Refinance?

Interest rates are saturating the news this week, but how do these impact mortgage rates and does this mean I should refinance my mortgage?

From the desk of our Chief Investment Officer, Kate Saltonstall: 

Historically, when the 10 year Treasury falls, so do mortgage rates.  In the last month, the yield of the 10 year Treasury has moved down 0.52% from 1.52% to 1.00%.  The drop in mortgage rates appears to be happening a bit more slowly, which isn’t surprising given the recent extreme market volatility. We anticipate a drop in mortgage rates after the mortgage lenders have had a few days to adjust rates after the Fed’s unprecedented 0.50% drop in the Fed Funds rate on March 3rd

The Fed hopes that by slashing interest rates that they can extend the economy’s record expansion by making it easier for businesses and consumers to borrow. With lower interest rates, refinancing may give you the opportunity to save money and turn around and spend it.  A decision to refinance comes down to a variety of factors in your personal situation.

Consider asking yourself these 5 questions:

1.  Can I get a lower interest rate?  

Many lenders say between 0.50%- 1.00% savings is enough of an incentive to refinance.  Of course, it’s all relative, the size of your loan can turn the savings from a daily cup of coffee into a daily designer sushi roll.  We believe a 50 basis point savings can be a motivating factor.

2.  Will refinancing save me money? 

With any transaction that comes with a cost, you always have to consider the breakeven period.  This is the point beyond recouping the fees you paid, when you begin to realize the savings.  How many years will you make the new monthly payment before you recoup the costs of refinancing?

Depending on the lender, your home’s location, and the amount you borrow, closing costs for a refinance can range from 1-2% of the loan amount.  

3.  How long will I own this home? 

It typically makes sense to refinance your mortgage if you’re planning to stay in your home for longer than the breakeven period.   However, if you plan to stay in your home for the life of your loan, by refinancing and extending the loan term, you may save in cash payments for the first few years but end up paying more in total interest payments over the life of your new loan.

For example, 10 years ago you purchased a home and took out a 30-year fixed loan, then you refinance today to a new lower 30 year rate.  If you spend the next 30 years paying off that loan, you will in effect have made 40 years of interest payments.

4.  Will a refinance enable me to pay off my home more quickly? 

When interest rates fall, homeowners often have the opportunity to refinance an existing loan for another loan that might slightly increase the monthly payment, but has a significantly shorter term.  For example, if you were to move from a 30 year to a 15 year fixed, and stay in your home for the life of your loan, you will realize significant reduction in total interest payments.  

5.  Does it make sense to consolidate my debt?  

Many homeowners refinance to consolidate their debt. At face value, replacing high-interest debt with a low-interest mortgage is a good idea. Unfortunately, refinancing does not bring automatic financial prudence. Take this step only if you are convinced you can resist the temptation to spend once the refinancing relieves you from debt.  

The Bottom Line

Refinancing can be a great financial move if it reduces your mortgage payment, shortens the term of your loan, or helps you build equity more quickly.

As part of the decision-making process, you should also factor in what part a mortgage could play in implementing your overall wealth strategy and long-term goals and objectives.  What is the arbitrage of the interest rate you’ll pay versus a conservative long-term investment return on the same pool of money?  

As with everything, there are also the tax considerations.  Whether you are itemizing deductions or taking the standard deduction, having mortgage interest to report is another benefit many borrowers appreciate.  

When reviewing rates from different lenders, its imperative to insure you are making like comparisons with regard to their terms.   Keep in mind, rates from different lenders can also fluctuate based on each lenders appetite for certain configurations, and if they intend to sell the loan.  Make sure you are comparing apples to apples!

Sources: NerdWallet, Inc., Investopedia, Wall Street Journal, Zillow


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