Mortgage refinancing entails repaying an old loan and replacing it with a new one. Homeowners remortgage for a variety of reasons:
- To get a lower rate of interest
- To reduce the duration of their mortgage
- To convert a variable-rate mortgage (ARM) to a fixed-rate mortgage (FRM), or vice versa.
- To borrow against your home’s equity in order to cover a financial emergency, finance a big purchase, or consolidate debt.
Refinancing to Obtain a Lower Interest Rate
One of the greatest reasons to refinance is to reduce your current loan’s interest rate. Historically, the rule of thumb has been that refinancing is a good idea if the interest rate can be reduced by at least 2%. However, many lenders believe that 1% savings are a sufficient incentive to refinance. Reduced interest rates not only help save money, but they also accelerate the pace at which you develop equity in a house and may help reduce monthly payment costs.Refinancing to Reduce the Term of the Loan
When interest rates decrease, homeowners may have the option to refinance an existing loan for a loan with a substantially shorter term while maintaining the same monthly payment. You can use a simple mortgage refinance calculator to figure out the logistics.Refinancing to Convert to an Adjustable Rate Mortgage (ARM) or a Fixed-Rate Mortgage
While ARMs often begin with lower mortgage refinance rates, most likely lower than a fixed-rate mortgage, some adjustments may result in rate rises that exceed the rate offered by a fixed-rate mortgage. When this happens, switching to a fixed-rate mortgage results in a cheaper interest rate and removes the risk of future rate increases. On the other hand, switching from a fixed-rate loan to an ARM — which typically has a lower monthly payment than a fixed-term mortgage — may be a prudent financial move when interest rates are dropping, particularly for homeowners who do not intend to remain in their houses for more than a few years. These homeowners can lower their interest rate and monthly payment on their loan, but they won’t have to worry about how rates rise 30 years from now. If interest rates continue to decrease, the periodic rate adjustments on an ARM result in lower rates and lower monthly mortgage payments, obviating the need to renew each time rates decrease. On the other hand, this would be an imprudent approach when mortgage interest rates increase.Refinancing to Consolidate Debt or Access Equity
While the reasons for refinancing are all financially sound, mortgage refinancing may lead to an endless cycle of debt. Homeowners often borrow against their equity to pay large expenditures, such as a home renovation or a child’s college tuition. These homeowners may explain the refinancing by stating that renovation increases the value of the property or that the interest rate on the mortgage loan is lower than the interest rate on a loan from another source. Refinancing may be an excellent financial decision if it lowers your monthly mortgage payment, shortens the duration of the loan, or accelerates the accumulation of equity. When utilized properly, it may also be an effective instrument for resolving debt. Prior to considering refinancing, carefully examine your financial position and ask: How long do I want to remain in this house? How much money would refinancing save me?Latest Articles
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