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You Could Save a Bundle. With interest
rates at 20-year lows, many homeowners wonder...is it time to refinance my
mortgage? No pat formulas exist to help you answer that question. Gone is
the old "two-two-two rule" - that you should swap mortgages only
if you've been in your house more than two years, expect to stay at least
two more years, and the new interest rate is two percentage points lower
than your current rate. In today's refinancing scene, there's no such rule,
according to Leonard Lacouture, CUNA Mortgage chief operating officer.
"You refinance when it feels right-when there's
enough economic necessity or enough perceived value in the mind of the
consumer." But usually, you need 20% equity in your house to be able to
refinance.
Besides the "when is
the right time" question, you face a host of others. Should
I opt for a 15 or 20-year mortgage instead of a 30-year fixed mortgage? Or
should I go with an adjustable rate mortgage? And
what about the no-points/higher-rate loan vs. a loan with points but a lower
interest rate? Here's what to consider to sort your choices.
As of early spring 1993, the national average interest
rate on a 30-year fixed mortgage was 7.6%, down from an average of about 9%
a year earlier. No one knows where rates will go. Should you refinance now
or wait in hopes that rates may drop further? No one can tell you. Say you
trade your 10%, 30-year mortgage of $80,000 for a new one at 7.5% interest.
Your monthly payment will drop from about $702 to $560, a savings of $142 a
month. If you were to nab a 7% loan some months from now, your monthly
payment would drop an additional $27, to $532.
But while you wait, hoping to get the lowest possible
interest rate, you're losing savings of $142 a month. Is it worth saving the
not-so-sure extra $27? For every month you delay, you'd have to own your
house at least five extra months (beyond the time needed to recover
refinancing costs-see below) for the waiting game to pay off. Of course,
you'll be out some money if rates climb rather than fall and you eventually
refinance anyway.
Is it worth the gamble? Only you can answer,
based on your economic situation and how long you plan to stay in the house.
The savings come with a price, in the form of
refinancing costs. Chief among these are points; a point is equal to 1% of
the mortgage amount. For example, two points on an $80,000 mortgage would be
$1,600. Other refinancing costs include application fees (also called
origination fees), appraisal credit check, title search, and closing costs.
Most lenders will allow you to roll some, perhaps all, of your refinancing
costs into your new loan. Say the points and other refinancing costs total
3% of the mortgage amount (the average is 2.1%). For an $80,000 loan, that's
$2,400. In the scenario described above, you reduced each monthly payment by
$142. That means it would take about 17 months to recoup refinancing costs
($2,400Ö$142 =16.9). If you plan to sell your house sooner than that, don't
refinance.
You may be able to choose between a 7% loan with two
points and a 7.5% loan with no points for a 30-year mortgage. Which way to
go? The key is how long you expect to stay in the house. Opting for the
no-points loan will save up-front money ($1,600 on an $80,000 mortgage). But
your monthly payment will go up from about $533 to $560, about $27 a month.
After five years you'd save as much with the lower monthly payments as you
would by choosing the no-points loan. If you plan to sell your house within
five years you're money ahead with the no-points loan.
If you plan to sell your house in a few years consider
refinancing with an adjustable-rate mortgage (ARM) rather than a fixed
mortgage. A typical ARM has a two percentage point annual cap and a 6
percentage point lifetime cap. That means if interest rates rise, your
mortgage rate may increase two percentage points a year to a limit of six
points. With an ARM of, say, 5%, you'd be assured of low payments the
first year. On an $80,000 mortgage, your payments would be about $430 a
month. Even if the rate increases in the second year you'd still be getting
a good deal at 7%, with your monthly payment up about $100. After that it
gets a little dicier. But if you plan to sell your house within a few years
you may be better off with an ARM.
Perhaps trimming monthly payments is not your prime
motive. If you're interested in getting the house paid for before you retire
or send your kids to college, then a 15 or 20-year mortgage may be
best. If your object is to take advantage of reduced interest rates
and not to take some money out of the transaction as you refinance, be
careful to compare apples to apples. For example, if you're in the eighth
year of a 30-year mortgage, your current loan has 22 years left. Refinancing
into a new, lower rate, 30-year mortgage at this point might not save money
over time. Ask your lender to help you calculate the cost of your
mortgage's remaining 22 years at the new, lower interest rate. Then you
might decide a new 15-year mortgage is a better choice than taking another
30-year mortgage.
It lets you take advantage of lower interest rates and
build up savings (in the form of equity in the asset, your house) instead of
just spending the difference in mortgage payments. With a shorter-term
mortgage your monthly payment may not go down or may rise some-what,
compared with what you're paying for your current 30-year mortgage. But
you'll save thousands of dollars over the loan's lifetime. For example, for
a 30-year mortgage of $80,000 at 7.5%, you'll pay total interest of about
$121,360 (monthly payment $599), compared with about $53,490 total interest
(monthly payment $742) for a 15-year mortgage at the same interest rate. But
you'd likely save even more, because the 15-year mortgage should cost less
perhaps 7% in this example. Total interest would be $49,431 and monthly
payment would be about $719. Remember, too, that with a shorter-term
mortgage, you build equity faster. If you decide in the future to take a
home-equity loan, you'll have more equity to draw on. And the interest on a
home-equity loan usually is tax deductible. If you postpone
refinancing your mortgage while waiting for rates to hit bottom you may have
missed bragging rights. Don't pass up the opportunity to save many thousands
of dollars in hopes of saving mere hundreds.
Contact:
Bill Troxel
Mortgage Supervisor
727-471-1335
1-800-382-2400
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