When Should I Refinance My Home Loan?
The question of when to refinance is something many homeowners struggle when it comes to managing their home mortgage. If you, as a homeowner, are considering this option, you should not only factor market conditions into your decision but also your current mortgage and your overall financial situation.
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Budget
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According to LendingTree, one of the factors leading to a decision to refinance is your monthly budget. Many people refinance to lower their monthly mortgage payment and, if your mortgage payment is straining your monthly budget, the timing might be right to refinance. By most standards, your monthly mortgage payment should not exceed 35 percent of your take-home pay. Some homeowners are comfortable paying more, but if you find your monthly payment is stressing your budget, refinancing is an option.
Debt
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Another common reason to refinance is consolidation of high-interest debt. If your debt payments are getting overwhelming and you have enough equity in your home mortgage to include the additional funds, then you should consider refinancing as a viable option. Prior to the recession in 2008, using refinancing to pay off high-interest credit cards, student loans or auto loans was a common practice for many financially stressed families using their home as an ATM for a quick dose of cash. This was an especially common practice if you had enough equity in your mortgage to borrow against the price of your home. However, as banks have tightened their lending policies and home prices have fallen nationwide, that practice began to subside. You can still use refinancing as a tool to consolidate debt, but it is a tool you should consider carefully. Between closing costs on your new loan and amortization costs of paying off the debt, you might be spending more than you would have if you had just kept to payment plan on that outstanding debt.
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Interest Rate
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A popular method to determine if now is the right time to refinance your home mortgage is checking the gap between current home mortgage interest rates and your current mortgage rate. A rule of thumb to follow stated by many home mortgage institutions and experts, including MortgageFit.com, is the 2 percent rule. If the current rates are 2 percent lower than what you are now paying, then you should consider refinancing. The 2 percent rule figures your savings in interest will help you offset the costs you will incur in closing your new loan and, over time, you will see a savings difference. However, if you plan on moving or selling your home in the near future, this formula does not work since you will not have the time to recoup the savings, so only use the 2 percent rule if you plan on staying in your home for a period lasting longer than five years.
Terms
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The terms of your mortgage may also impact your decision to refinance, but not under every circumstance. If, for example, you are currently in an adjustable-rate mortgage (ARM), sound advice would be to transition into a fixed-rate mortgage so you don't have to fret every time the new home interest rates are announced. However, if you are in the ARM because you plan on selling your home shortly, then the decision to refinance into a fixed-rate mortgage makes no sense. Another potential for refinancing is your mortgage insurance. If you paid less than 20 percent down and had to purchase PMI and now have more than 20 percent in home equity, refinancing is an option to eliminate the PMI monthly payment, which could result in several hundred dollars of savings
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References
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