Top 5 reasons to refinance and the pros and cons of each
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When interest rates are low, you might be thinking about refinancing your home. Doing so may lower your monthly mortgage payments and/or save on interest over the life of your loan. However, refinancing isn’t just about the interest rate—there are costs and risks to keep in mind, too. Here’s an in-depth look at the reasons to refinance, and the pros and cons you’ll want to consider.
1 Lower monthly payments
Refinancing for another 30-year term after making payments for years and earning equity will lower the principal of your loan, which should in turn lower your monthly payments, freeing up room in your budget for other financial goals.
You’ll improve your monthly cash flow.
Your 30 years will reset, and you’ll pay a lot more in total interest.
2 Lower interest rate
If interest rates fall after you close on your loan, you could consider refinancing to take advantage of the lower rate. You might save tens of thousands of dollars, depending on the length of time you’ve had your loan and the difference in your current rate and the refinance rate. Still, there are other factors to consider. Speak with your lender for all the details and decide what’s best for you.
Possibility to reduce your overall interest payments.
If you’ve had your loan for more than a few years, you might not save in the long run.
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3 Switch to a fixed rate
If your original loan is an adjustable-rate mortgage (ARM) and your initial fixed term is about to expire, you may want to refinance to a fixed-rate mortgage. Locking in a fixed rate can protect you from rising interest rates in the future. And having the same principal and interest payment every month is easier to plan and budget for. Remember, you still have the option of refinancing for fewer than 30 years (commonly 10, 15 or 20 years).
Predictability, stability and potential cost savings.
If rates drop, you won’t be able to take advantage of that without another refinance.
Mortgage rates can move up and down daily, so it’s important to keep an eye on this number before you make any decisions.
4 Reduce your loan term
If you can afford to increase your monthly payments, one option is to shorten your loan term. By paying more over a shorter period of time, you could save thousands of dollars in interest over the life of the loan and own your home mortgage-free sooner.
You could pay off your loan faster.
Your monthly payment will be higher.
5 Cash-out refinance
As an alternative to a home equity loan, you can refinance and cash out a portion of your home equity. This allows you to access a large chunk of money without selling your home. You might need the cash to start a business or pay for a child’s college education. Keep in mind, though, that the cash you take out will cost you more in interest over the life of your new loan, but not necessarily more than other financing options would cost you.
You can use the money for any purpose, and your rate will also generally be lower than credit card interest rates or the rates on a personal loan.
You’ll reduce your home equity and, because you’ll reset your loan term, you’ll pay more in total interest.
Breaking even on closing costs
Find out what your closing costs will be if you refinance, and factor those into your break-even point—the time it will take you to recover the money it costs to refinance. If you plan to sell before that point, you probably should not refinance.
Use this example as a guide:
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