Mortgage Refinancing an Option for Monthly Savings
Despite rising interest rates, homeowners still can find monthly savings by refinancing their mortgage.
According to the Ohio Credit Union League’s 2018 Mid-Year Consumer survey, 57 percent of respondents have refinanced a mortgage and most Ohioans, 81.7 percent, believe the best reason to refinance a mortgage is to take advantage of better interest rates, payments or loan terms.
Conventional wisdom says borrowers have the right idea about the most beneficial use of refinancing, said Chris Pugh, a mortgage loan officer at Eaton Family Credit Union. “It’s typically considered a better idea to refinance to save money on a loan, rather than leverage the equity in your house for new debt or purchases,” Pugh said.
The Ohio Credit Union League’s survey found fewer Ohioans are comfortable utilizing a cash-out refinance option to pay for home improvements (8.6 percent), to pay off higher debt (6.7 percent) or to pay for a big purchase (1 percent).
“Traditionally, the most common way to save money through refinancing is to find a loan with a lower interest rate, but that is becoming more difficult to do these days,” Pugh explained. “The improving economy has led to increasing interest rates on a variety of loans, including mortgages.”
According to Freddie Mac, a 30-year fixed-rate mortgage had an average interest rate of 4.59 percent in May. That’s an increase of 0.58 percent over last year and a rise of nearly a percentage point since May 2016. Yet the country is still enjoying a relatively low mortgage rate environment – the same loan had an average rate of about 6.04 percent in May 2008 and a whopping 16.4 percent in May 1981.
Rising rates mean fewer Americans have the incentive to refinance to a lower mortgage rate. According to an Investopedia article, borrowers have been guided to look for a 2 percent interest rate decrease before refinancing. Today, some investors say 1 percent is enough of an incentive.
“Really, the key in making the decision to refinance, even in a rising-rate environment, is for borrowers to look carefully at their individual situation,” Pugh said.
If the homeowner originally opted for a 30-year loan with relatively small monthly payments, but is now in a better financial position to make more substantial payments each month, it might make sense to refinance to the mortgage with a shorter term, Pugh said. The interest rate might not be significantly lower, and monthly payments may increase, but the customer will save money on interest over the shorter lifetime of the loan.
Pugh said there are several other common reasons to refinance a mortgage, including when the loan includes a large balloon payment at the end, the homeowner simply wants to restructure their current loan terms or they have a genuine interest in putting the equity in their home to use to pay off debts or pay for home improvement projects.
“In any of these cases, a cash-out refinance would be attractive,” Pugh explained.
Borrowers should consider the following when evaluating their refinance options, said Pugh:
- Be sure refinancing is the right choice for you. Refinancing isn’t the best option in every situation. Before considering refinancing your mortgage, make sure you know the rate and term of your current mortgage, as well as how that compares to present rates at various terms in the market. It’s important to understand how much you stand to save by refinancing before making the decision.
- Understand why you’re refinancing. Make sure you have a clear goal in mind for your refinance. If you need to free up money in the short term, you may want to consider shopping for a loan with a significantly-lower interest rate or monthly payment. If you can afford larger payments each month, and want to save over the life of the loan, shopping for a shorter-term loan may make more sense.
- Raise your credit score. Make sure your credit score is in good shape before deciding to refinance your mortgage so you can get the best possible interest rate. A credit score in the mid-700s will serve you well. To raise your credit score, pay down credit cards, make on-time payments, and avoid taking on new debt before refinancing.
- Shop for the best loan originator. There’s more to take into consideration than your new loan’s interest rate. Make sure you’re shopping around for institutions offering the best loan origination and document fees. It can also be valuable to search for a loan agent you trust to help you find a mortgage loan that best serves your financial position.
- Buy mortgage points. Homeowners can buy mortgage points, also known as discount points, to reduce their interest rate. Mortgage points are fees paid directly to the lender at closing in exchange for a lower interest rate. One point costs 1 percent of your mortgage amount – so $300 on a $30,000 loan. “Buying down the rate” basically allows you to pay some interest up front to achieve a lower rate over the life of the loan.
Dave Godek, MBA
Business Development Manager
Eaton Family Credit Union