Pros and cons of refinancing mortgages

Quick insights

• There are many benefits that can come from refinancingrefinance-hl000061 your old mortgage with a new one such as lowering your monthly payment.
• Mortgage refinance rates may be lower than your current rate, allowing you to lock in a better rate and save on interest charges.
• Run the numbers and calculate your breakeven point to determine when it is a good time to refinance your mortgage.

Imagine you’re a homeowner who has been happily residing in your home for the past 10 years. You've been able to afford your mortgage, explore fun activities on the weekend and save for future goals. You're looking for opportunities to lower your expenses, especially your monthly mortgage payment. When interest rates dip, you do some research and find out you’re a great candidate for mortgage refinancing. So how does it work and what does it all mean?

What is refinancing a mortgage?

Refinancing a mortgage means you are replacing your old mortgage with a new mortgage. In simpler terms, you are taking out a brand-new loan on your property that hopefully has a more favorable benefit.

There are different types of refinancing options, but the most common ones are as follows:

• Cash-out Refinance: When the borrower converts their home equity into cash, they are taking out a new mortgage and keeping the difference, giving them quick access to cash.
• Rate & Term Refinance: When the borrower replaces their current mortgage with a new one. This involves revising the terms of the loan agreement, ideally with a lower monthly payment and interest rate.

Pros of refinancing a mortgage

The key benefits of refinancing a mortgage can include:

• Potentially lower rates: Current interest rates may be lower than your existing rate; however, interest rates will vary depending on the market.
• Interest Savings: Save on interest charges and lower your monthly mortgage payment.
• Shorter loan term: You have the option to reduce your loan term which can save you money in the long-term and lower your overall debt obligations. (Example: refinancing your existing loan from a 30-year mortgage to a 15-year mortgage). A shorter loan term means your monthly payment may increase.
• Lump sum of cash: You can convert your home equity into cash to pay for home renovations or eliminate credit card debt.
• Manage your budget: Proactively take control of your finances and budget accordingly.

Benefits of refinancing recap

Refinancing allows you to get new terms and rates on your mortgage, which may result in lower monthly mortgage payments. Traditionally, many people tend to refinance if the new rate is at least 1% lower than their current rate. Consider the benefits of refinancing:

• Secure lower mortgage refinance rates. When it comes to refinancing a 30-year mortgage, most mortgage experts recommend a breakeven point of three to five years as an industry-wide “sweet spot”.
• Save more money and free up your monthly budget for daily expenses or save for future goals.
• Eliminate private mortgage insurance (PMI).

Cons of refinancing a mortgage

As with anything in life, refinancing a mortgage has its advantages and disadvantages. There are a few reasons you may not want to refinance your home, such as:

• Additional costs: When you refinance, you have to pay closing costs which can range from 2%-6% of the new loan amount. There are upfront costs that come with refinancing your mortgage. Make sure you set aside enough funds to cover additional expenses like closing costs. Experts recommend saving roughly $5,000 for upfront costs.
• Credit score decrease: If you refinance a mortgage, your credit score might take a small dip. The small dip is temporary and could have minimal impact on your credit score in the long run.
• More interest: There are unique situations where you could end up paying more in the long-term such as taking out cash from the property or extending the loan term. For non-cash out refinance with extended terms, customers will pay more for the interest.

In summary

Ultimately, there are pros and cons of refinancing a mortgage. It's important to crunch the numbers, consider the short-term gains and determine if the long-term impact of refinancing is worth it. You should review the terms, mortgage refinances rates, costs and your breakeven point.