While lower rates are a great reason to refinance home mortgage loans, there are also other reasons why homeowners may decide it is best to refinance:
• Refinancing to shorten the term
• Refinance to a conventional mortgage from a jumbo loan
Refinance home mortgage loans to shorten the termLet's look at two scenarios:
By shortening the term of the loan from a thirty-year mortgage to a fifteen or twenty-year mortgage, homeowners can save a great deal in interest, even if interest rates remain the same.
Andy and Stephanie have a $125,000 mortgage. When they qualified for the mortgage, only Andy was working and the payment was based on his income. Since that time, Stephanie has started working and they would now like to pay their house off sooner since they have more income. But interest rates have remained relatively unchanged since the original mortgage and they are unsure if it would be to their benefit to refinance the home mortgage loan. However, even though interest rates have not changed, there is still usually a difference in rates based on the term of the loan. Let's look at the difference in interest savings and payments for Andy and Stephanie.
| ||30 years ||20 years ||15 years |
|Interest rate ||6.50% ||6.25% ||6.00% |
|Payment ||$790 ||$913 ||$1,054 |
|Interest paid ||$159,426 ||$94,278 ||$64,867 |
As you can see from this example, with a $264 increase in payments, Andy and Stephanie can shave fifteen years from their repayment schedule and save more than $94,000 in interest charges.
If rates were significantly lower, refinancing a home mortgage loan may make even more sense. The effect would be more profound with a decrease in rates from the original mortgage:
| ||30 years ||20 years ||15 years |
|Interest rate ||7.50% ||6.00% ||5.50% |
|Payment ||$874 ||$895 ||$1,021 |
|Interest paid ||$189,644 ||$89,929 ||$58,844 |
In this scenario, with just a $21 increase in monthly payments, they could shave ten years from their repayment and nearly $100,000 in interest. Or with the fifteen-year loan, a $150 increase in payments would shave fifteen years and more than $130,000 in interest.
Refinance to a conventional mortgage from a jumbo loan
For homeowners buying more expensive properties, they may have to seek out jumbo mortgages. These mortgages are ones where the loan amount exceeds the limits set by Fannie Mae or Freddie Mac. Currently, this amount is $333,700. Jumbo mortgages carry interest rates that are higher than conventional mortgages. The difference in rates can sometimes be as much as one point.
For those with jumbo mortgages, they may decide to refinance when the balance falls below $333,700. Saving on interest is a main reason to refinance home mortgage loans for the jumbo mortgage holder. In the following scenario, you will see why.
Robert and Evelyn have a $350,000 jumbo mortgage at 7.25%. When the mortgage is paid down to $330,000, they decide to refinance to a conventional mortgage at 6.50%.
| ||Jumbo Mortgage ||Conventional Mortgage |
|Loan Amount ||$350,000 ||$330,000 |
|Interest Rate ||7.25% ||6.50% |
|Payment ||$2,387 ||$2,085 |
|Interest Paid ||$509,539 ||$420,900 |
By refinancing to a conventional mortgage, Robert and Evelyn will save nearly $90,000 in interest over the life of the loan.
When homeowners look to refinance home mortgage loans, there is almost always a savings either in the monthly payment, the interest paid on the loan or both. Refinancing can be a great deal when substantial savings can be proved.
All of the examples above assume the homeowners will stay in their house through the term of the loan. If you plan on selling your house soon, refinancing could end up costing you money because of additional closing costs. Be sure to always calculate your breakeven point based on the amount of time you plan to stay in your home.