Tip: When Should I Refinance My Mortgage?

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You may have noticed that when we are in a recession, there tends to be increased consumer interest in mortgage refinancing. You might see or hear advertisements about lower interest rates and how you can lower your monthly mortgage payment. However, there are several factors to take into account when deciding when – or if – you should refinance your mortgage, including the expected trajectory of mortgage rates. Here are a few scenarios where you should consider refinancing.

Mortgage Interest Rates Dropped

The most popular reason people refinance their mortgage is to receive a lower interest rate. When the Federal Reserve drops interest rates, it’s typically because the economy is struggling. Cutting rates has an indirect effect on the mortgage rates; indeed, one reason the Fed cuts interest rates is to encourage consumers to purchase real estate.

Refinancing at a lower interest rate may decrease your monthly payment. You could refinance your mortgage at a lower rate but also change the terms of your mortgage. For example, if you have 20 years left on a 30-year mortgage, you may be in a financial position to refinance your home to a 15-year mortgage and still pay a similar amount each month.

Lower interest rates do not always mean that you should refinance your home. However, if you hear that interest rates have dropped and you have a good credit score, you may want to speak with a financial advisor or a mortgage lender to evaluate if this is the right move for you.

Your Home’s Value Increased

Another reason to refinance your mortgage is if the value of your home has increased. This allows you to do what’s called a cash-out refinance – an especially valuable option if you have high-interest debt that you need to pay down.

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For example, you may have purchased a $200,000 home and put a $40,000 down payment on it, leaving you with a $160,000 mortgage. You’ve made regular interest payments and now owe $100,000. However, over the last several years, the value of your home has increased from $200,000 to $250,000. This means you can take out a mortgage for more than the remaining cost of your mortgage and pocket the difference. You can then use it for any needs, whether that’s financing an addition to your house or paying down some high-interest credit card debt.

This can be a viable way to consolidate your debt. However, you should only do this if you can make the new regular payments on your mortgage. Your total debt will not decrease, but by paying off high-interest debt you can save money by paying less total interest.

Your Credit Score Rose

Credit score gauge

When determining your interest rate, your credit score is one of the biggest factors lenders consider. Therefore, if you had a lower credit score when you first purchased your home, you might be able to refinance at a lower interest rate.

For example, let’s say you applied for a $200,000 mortgage with a 30-year mortgage, had a credit score between 660 and 680, and received an interest rate of 4.55%. But, if your credit score was between 700-779, your interest rate could be closer to 4.25%. Over the 30-year life of the loan, having a better credit score would save you over $12,417.

You Have an ARM and Rates Are Rising

If you have an adjustable rate mortgage (ARM), your interest rates can increase during your repayment term. Therefore, you might have a lower interest rate during the first few years of your loan, but as interest rates increase, you are responsible for larger payments. Therefore, you might want to refinance and get a fixed-rate mortgage to help you cap your payments.

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