How to know if mortgage refinancing is for you, according to experts
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Erin Gobler has over 10 years of experience in personal finance. Her work has appeared on Fox Business, Fox Money, USA TODAY, Business Insider, GOBankingRates, Newsweek Vault, CNN, and Forbes Advisor.
Updated October 16, 2024, 2:45 AM EDT
Refinancing your mortgage is the process of taking out an entirely new loan to replace your current mortgage. Your new loan typically comes with new terms and a new interest rate.
There are plenty of reasons why someone might want to refinance their mortgage. Financial professionals shared some of the most common scenarios when you might consider refinancing, as well as a few things to keep in mind.
- You can get a lower interest rate
- You want to change your loan terms
- You’re cashing out to fund another goal
- You want to remove PMI
1. You can get a lower interest rate
One of the most common reasons that people refinance their mortgages is to get a lower interest rate. Mortgage rates reached record lows in 2020 and many homeowners took advantage of those rates as an opportunity to refinance. Depending on your current interest and remaining mortgage balance, refinancing to a lower rate could be the difference of tens of thousands — or even hundreds of thousands — of dollars in savings.
The current market isn’t the only thing that could help someone lower their mortgage interest rate. Your credit score is an important factor in determining your mortgage rate. If your credit score today is significantly higher than when you initially took out your loan, you could get a lower interest rate.
It’s important to remember though that mortgage refinancing for a lower rate isn’t always the right move.
“A lower interest rate or lower monthly payment might always seem like a good idea, but it is important to understand the fees and closing costs associated with a refinance,” said Brian Walsh, CFP at SoFi. “A simple approach to weigh the pros and cons is to divide your closing costs by your monthly savings. That is your breakeven period and if you plan to stay in the house longer than your breakeven period then it might make sense to refinance.”
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2. You want to change your loan terms
Your interest rate isn’t the only term in your mortgage you can change by refinancing. Many homeowners use refinance loans to transition either from a 30-year to a 15-year mortgage or from an adjustable-rate mortgage to a fixed-rate one.
According to Benjamin Schandelson, a Florida mortgage loan originator at MJS Financial, LLC., refinancing can also help you eliminate toxic loan terms.
“Things like bad ARM loans, balloon payments, prepayment fees are all toxic loan features bankers have put in their loans a while back and some people still have loans with these features,” said Schandelson. “Refinancing to a fixed loan can make the mortgage much cleaner and easier to deal with. It will also save you money in the long term.”
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3. You’re cashing out to fund another goal
Many homeowners take advantage of low interest mortgage rates to do a cash-out refinance, which involves cashing out some of the equity you already have in your home.
A cash-out refinance can help people to pay off high-interest debt, pay for home renovations or purchase an investment property. Since mortgage rates tend to be lower than other loan rates, a cash-out refinance can be more cost-effective than carrying other types of debt.
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4. You want to remove PMI
When you buy a home with a down payment of less than 20%, you typically end up paying private mortgage insurance (PMI). Once you’ve built up enough equity in your home, refinancing can be an effective way to get rid of that extra monthly payment.
And according to David Yi, president and mortgage adviser at Providence Mortgage, rising home values in many areas could help you reach 20% equity even quicker.
“Home values are increasing at an aggressive pace,” said Yi. “When home values go up, you could easily refinance out of mortgage insurance and lower your payments by compounding the interest payment savings with the elimination of your monthly mortgage insurance.”
You can use an online mortgage refinance calculator to determine your new monthly costs and see if a mortgage refinance makes sense.
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What’s next?