To Secure Lower Interest Rates and Lower Monthly Payments
The first thing to ask yourself when considering refinancing is, “how long am I planning to live in this house?” If you are planning to live in your home for at least 5 more years, refinancing will help you save money in the long term. However, if you’re anticipating putting your home back on the market within just a few years, keep in mind that refinancing costs between 3 and 6 percent of the principal, and will take years to really benefit from any potential savings.
Most lenders suggest refinancing if you can reduce your interest rate by a minimum of 1 percent. This may help you save money, build home equity faster, and shrink your monthly payment. Many homeowners with adjustable-rate mortgages will refinance and switch to a fixed-rate in order to guarantee stability: the monthly payments will not change for the duration of the loan term, which is a sensible option given the potential fluctuation of interest rates in the future of your mortgage.
To Shorten the Loan Term
When interest rates decrease, you may want to take the opportunity to refinance your current loan for one that has a shorter term and similar monthly payments. This is a decision that may be best for some and not others, but is ultimately the most effective way to pay off your mortgage in a shorter amount of time.
To Tap into Your Home’s Equity
Many homeowners refinance in order to access their home’s equity and use it to cover expenses such as remodeling, college tuition, buying a new car, or paying off credit cards. Tapping your home’s equity is fairly easy to do, and the funds are often tax-deductible. However, refinancing with the intent of consolidating debt is not always the wisest idea, even though you’d be replacing a high-interest debt with a low-interest mortgage.
The reason is that cashing out a portion of your home’s equity increases the number of years you owe on the mortgage, and is rarely worth the cost of refinancing fees for the application, title insurance, and lender’s attorney review. For many homeowners, this has led to an endless cycle of debt, and even bankruptcy! If tapping equity is something you plan on doing, the best way to put the cash to use would be not on a vacation, but rather on home improvements that will help you regain more equity value.