Now is a great time to refinance your mortgage. Interest rates are near record lows and home prices are on the rise. In fact, refinancing activity is up 86% over the prior year.
You can shave hundreds off your monthly mortgage bill by refinancing. Over the life of a mortgage, these monthly savings turn into thousands.
Read on to learn if refinancing your mortgage is worth it. Explore topics such as mortgage refinance rates and private mortgage insurance (PMI).
Reduce Your Monthly Financing Expenses
The primary way that homeowners save on a mortgage refinance is by securing a lower interest rate. Your total monthly payment is a combination of several different cost elements. Of course, there is the principal and any property taxes.
Some homeowners also have private mortgage insurance (PMI). Financing expenses are the final piece of the puzzle. Naturally, a higher interest rate results in higher monthly finance expenses.
Interest rates vary depending on many different factors. Of course, lower terms result in a lower interest rate. The lender also reviews your credit score before quoting an interest rate.
Total Interest Paid
Many homeowners have to make a difficult decision on the loan term. There are mortgages ranging from 10 to 30 years. They typically work in 5-year intervals.
Let’s walk through a hypothetical example using a mortgage calculator to determine total interest paid. Consider that a borrower is taking out a $300,000 mortgage.
With a 2.625% interest rate and a 30-year term, the monthly principal and interest payment is $1,204. Over the 30-year loan term, the borrower pays a total of $133,960 in interest.
If the borrower takes out a 15-year mortgage instead, the interest rate drops to 2.125%. The monthly principal and interest payment increase to $1,947.
However, the borrower will pay off the mortgage in half the time. In addition, the total interest paid at the end of the loan will be $50,638.
Taking a shorter mortgage is the best financial decision. The borrower saves over $83,000 with the lower interest rate and paying the principal down faster.
Understandably, your mortgage payment has to fit within the family budget. Many homeowners have no choice but to take a 30-year mortgage refinance. There is no shame in that approach as you will still save each month.
Keep in mind, this is strictly a hypothetical example. Your terms and conditions are based on the applicant’s credit score and other factors.
Eliminating PMI is another way to save on your monthly mortgage payment. PMI is a tactic that lenders use to mitigate risk.
On a conventional mortgage, the typical down payment is 20%. Many lenders are willing to accept smaller down payments, but this makes the loan a riskier proposition. Those without sufficient cash reserves to make a 20% down payment are more likely to default on the mortgage.
So, the lender assesses PMI as a monthly charge to mitigate this higher risk of default. PMI can range from 0.25% to 2% of the total loan amount and is assessed each year.
For instance, consider 1% PMI on a $300,000 mortgage. This amounts to $3000 per year, or $250 per month when spread out over 12 payments each year.
Once you have built sufficient equity in the property, a refinance can eliminate PMI. You may have reached a 20% equity position in your home faster than anticipated. Take home prices in Portland, Oregon as a perfect example.
Currently, there are historically low home inventories. With very few homes on the market, bidding wars are increasingly common.
The end result is that home prices are on the rise. From 2019 to 2020, home prices increased by nearly 6%.
You can take advantage of rapidly rising home prices to eliminate your monthly PMI with a home refinance. This approach would save you hundreds per month.
There is another benefit to reaching a 20% equity position in your home. With 20% down, an escrow account is no longer required by the lender.
For millions of homeowners, escrow is included in their monthly mortgage payment. Escrow is an account managed by the lender to cover costs such as home insurance, property taxes, or PMI. The lender makes payments directly to the insurance company or municipal government on your behalf.
Your lender does not make any money off the escrow account. They do keep a surplus in the account to cover expenses. Typically, lenders like to keep an additional two months of escrow in the event that you miss a payment.
However, this means that the lender is managing hundreds or thousands of your money. Wouldn’t it be better to make payments on your own?
Then, you put the cash usually reserved for escrow surplus to work for you. It can be moved to a savings account and earn interest.
Cash-Out Mortgage Refinance Rates
Some people use refinance programs to liquefy their equity stake in the home. Here, the lender provides the homeowner with a check and a new mortgage.
The cash amount is based on the difference between the home’s appraised value and the outstanding loan balance. Homeowners use cash in a variety of constructive ways. Some elect to pay down credit card debt, saving them on monthly interest. Others use the cash to pay off medical or student loan debt.
You can also generate a positive return on investment (ROI) by sinking the cash into home improvements. Renovating your kitchen or bathroom can increase your property value and grow net worth.
Extend the Loan Term
Consider that you have been paying your mortgage down for five years. You could refinance with a new 30-year loan to save money.
This approach takes the now-lower mortgage balance and spreads it out over a longer term. You should be aware of the downsides of extending the loan term.
Of course, it will take longer to pay off your home. Also, you will be paying interest to a lender for another five years. However, some homeowners need to reduce their bills in the short-term.
Saving Money by Refinancing Your Mortgage: A Recap
With mortgage rates hovering near historic lows, refinancing is a no-brainer. You can save hundreds per month with a lower interest rate. Other ways to save include eliminating PMI or escrow surplus.
If you want to know the current mortgage refinance rates, contact us today to speak with a specialist.