The idea of refinancing an existing mortgage sparks in the minds of many homeowners when interest rates trends tend to be on the downswing. There are several reasons that may motivate a homeowner into considering re-mortgaging:
- To Achieve a Lower Interest Rate or Better Mortgage Terms
- To Switch Mortgage Loan Types (Such as Change from Adjustable Rate to Fixed Rate)
- To Withdraw Equity in the Home for Home Improvement or other Major Expenditures
Although a mortgage refinance may be beneficial in assisting homeowners to achieve their goals, sometimes re-mortgaging is not always the most prudent decision to make. Along with a mortgage refinance transaction come a myriad of costs. The costs a homeowner had to fund out-of-pocket at the time when they obtained their current mortgage will be repeated. Just because mortgage interest rates may be lower than the rate on their existing mortgage, a homeowner must determine if the time is indeed right for them to refinance.
When Refinancing May Absolutely Not Be the Best Idea
- If the existing mortgage has been amortizing for a long period of time, refinancing may not be the best option. To understand how a mortgage amortizes, know that the amount of the monthly mortgage payment that is applied toward the loan principal increases proportionately as time goes on.In the early years of a mortgage, most of the monthly payment goes toward the payment of interest. If a homeowner has been paying on their existing mortgage for a good number of years, they should be aware that refinancing will restart the amortization process all over again. They will be paying mostly interest and not building equity in the home. By retaining the existing mortgage, they are accumulating more home equity with each mortgage payment.
- It may not be the best idea to refinance if the current mortgage provides for the payment of a prepayment penalty to the lender should the mortgage be paid in full before expiration of its term. In some cases the amount of the prepayment penalty can be a hefty sum and payment of the penalty may be applicable even in the case of a refinance.The homeowner should confirm whether or not a prepayment penalty applies to their existing mortgage contract and weigh this added cost against any amount he may hope to save by the refinance process.
- If the homeowner intends on changing his residence within the next few years, the homeowner should keep in mind that the costs associated with refinancing may exceed any expected savings that may be achieved. Use of a mortgage calculator will help the homeowner compute his “mortgage break-even point” to determine if refinancing is indeed worthwhile.
Taking Action on the Re-Mortgaging Plan
Once the homeowner has weighed the potential savings against the costs involved in re-mortgaging, including all closing costs and possible prepayment penalty, and decides to take action, he should take the time to shop for the best deal.
Utilizing newspaper and internet resources, the homeowner can make a list of possible lenders to contact. Being cautious when viewing mortgage terms that may be advertised, the homeowner should watch for “APRs” (Annual Percentage Rates) that are considerably higher than the advertised rate. This indicates that the lender is planning to charge a sizable “discount” (a percentage of the mortgage amount payable by the mortgagor). The homeowner should not exclude contacting his current lender first, with whom he has built a relationship and which may want to keep his business by offering exceptionally good terms.
While getting pre-approved for refinancing is not necessary, it is always a good idea to ensure a smooth transaction.
Before making a loan application the homeowner should
- Get All Information in Writing
- Compare Loans Before Making a Final Decision
Mortgage lenders are required by law to provide a series of disclosure documents that disclose the details of the mortgage loan you are considering. Some lenders may be able to prepare these statements for the homeowner before he completes an official application. The information provided by these statements is critical to making the best choice: loan terms, down payment, and closing costs. A homeowner could potentially save thousands of dollars by shopping lenders and comparing costs before he makes a loan application and obligates himself on a new mortgage loan.
The prevail of low mortgage interest rates may prompt homeowners to consider refinancing their existing mortgage. A homeowner must first define his goal that he hopes to accomplish by entering into a new transaction. Then the homeowner should weigh the costs associated with re-mortgaging to the potential savings. If the homeowner decides it would be financially beneficial to take action on the re-mortgaging plan, he should gather the appropriate information in writing and compare deals before committing himself to a new loan.
Tom Hodge is a mortgage broker from Vancouver, BC. He likes to spend his spare time educating people about the industry on different online publications because he truly believes that an informed customer is a good customer.