When refinancing a home makes sense

Monday, August 15th, 2011 By

 

Monopoly house

Refinancing now, with historically low interest rates, makes sense -- or does it? Image: woodley wonderworks/Flickr/CC BY

Refinancing a home can be helpful under the right circumstances. Taking advantage of the current interest rates, while they remain at historic lows, makes the prospect all the more attractive. But just like any major financial decision, homeowners need to weigh the facts and do their homework to determine whether it is a sensible move for them.

Increase in refinance applications

Banks in the U.S. are currently seeing an increase in home refinancing loan applications. Mike Fratantoni, vice president of research and economics at the Mortgage Banker’s Association (MBA), said:

“Over the past month, refinance application volume has increased by 63 percent. Refinance applications for jumbo loans increased by almost 75 percent relative to last week. Despite these low mortgage rates, applications for home purchases have remained little changed through the summer.”

A jumbo loan is a loan for more than conventional limits set by Fannie Mae and Freddie Mac. The average interest rates on jumbo mortgages are typically higher than for conforming mortgages.

When refinancing makes sense

So when is it a good idea to refinance? The factors a home owner needs to consider are age, home equity, credit history and cash flow.

Homeowners facing retirement

Generally, for homeowners in their 50s or older, a refinancing makes sense if they have lived in their home for more than a few years and have good cash flow. Refinancing for a shorter term loan makes sense if they can pay it off in a timely manner for a mortgage-free retirement.

Younger homeowners

Younger homeowners, those starting a new family for instance, may want to refinance to a longer-term loan to give them more financial wiggle room in their month-to-month expenses. Also, it could allow them to tuck a little away each month toward retirement and their children’s education.

Mortgage calculator

Basically, the formula for determining if a refi is sensible or not is to divide the cost of the new loan by the amount to be saved from the current mortgage. This determines the break-even point. If the savings equal two years of the current mortgage payments or more, it may be something worth looking into.

Online mortgage calculators can also be helpful, such as the one at Mortgage 101 (linked below).

Well-prepared

The calculations above are only a place to begin. A homeowner should be informed and well-prepared when approaching lenders. He or she should know exactly what terms will most suit their needs and be willing to do some leg work in shopping for that deal.

Sources

Daily Finance
Yahoo Finance
Mortgage 101

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