Refinance Could Save Money — Even if Your Loan Is New
Refinancing your mortgage could save you a lot of money, even if your loan is relatively new. In fact, many people who purchased homes in early 2020 are currently refinancing their mortgage because they want to take advantage of near-historic low interest rates. Lenders are even having trouble keeping up with the high demand. If you purchased your home before 2020, you are likely paying a higher interest rate than what is current.
Refinancing your mortgage essentially means taking out a new loan to pay off your old one. Homeowners may refinance to take advantage of lower market interest rates, cash out a portion of their equity, or cut their monthly payment by extending their repayment term. For this post, we will be focusing on how refinancing can save you money, even if your loan is new.
How Soon Can You Refinance Your Mortgage?
How soon you can refinance depends on your lender and loan terms. Some lenders allow you to refinance as often and early as you’d like. However, many require a period to pass between appraisals. Generally, this is around six months.
If you don’t want to lengthen the life of your loan, you can amortize the mortgage and keep the same payoff date. For example, if you have a 30-year mortgage but would like to refinance after 5 years, you can amortize the mortgage for 25 years.
One important thing to note is that some lenders will charge prepayment penalties if you pay off your mortgage within 3-5 years. This includes paying off your original mortgage by refinancing. This is something to consider when you originally obtain your loan and look for in the fine print. If it’s too late, you’ll need to factor this cost into your decision about whether or not refinancing will save you money.
How Does Refinancing Save Money?
Refinancing saves you money in two main ways: A lower monthly payment and/or lower interest.
If you don’t mind extending the amount of time it takes to build equity in your home, you may refinance to another 30-year term mortgage. This will lower your monthly payment by stretching the remaining payments further. Keep in mind this can add to the amount you pay in interest if you don’t pick the right time to do it (when interest rates are significantly lower than when you originally obtained your mortgage).
The other reason people typically refinance is to lower their total interest payment. Interest payments are important because they essentially fuel the lending industry, but they aren’t the best use of your hard-earned money. By refinancing to shorten your loan term or refinancing when interest rates are low, you can lower the total amount you pay in interest.
Both of these strategies save you money and help you build equity in your home, though the methods are different. It might make sense to refinance even if your loan is relatively new if…
- Your credit score has improved since you originally obtained your mortgage
- Your income has increased, and you’d like to pay it off faster
- Interest rates are low
- You want to change your loan terms
These aren’t the only reasons to refinance, but they are some common situations in which people look to refinance their mortgage.
Should You Refinance Now?
A lot of people want to refinance this year because of low interest rates. While not everyone will qualify to refinance, there are a lot of different programs and ways to refinance. Even if you have a lower credit score or not much equity in your home, there may be a way for you to refinance.
Generally, a credit score of 600-620 is required depending on the loan type. However, some government programs have credit score requirements as low as 500 or no requirements at all. These offers may be extended to specific groups such as veterans. Lenders will also look at your debt-to-income (DTI) ratio. If you have a lot of debt compared to your income, you may be considered too risky. Lenders may worry you won’t be able to afford the loan.
To get the best mortgage rate, it helps to have at least 20% equity. You can still refinance your home with less equity, but you may not get a great rate. This factors into whether or not it’s even worth it to refinance yet. Lenders will also consider your home value. If your home value has decreased and you now owe more than it’s worth, you may need to look into alternative refinancing options via Fannie Mae and Freddie Mac.
Fortunately, deciding whether or not you should refinance isn’t a complete guessing game. There are some calculations you can run to decide if it’s time to refinance. There are many online calculators you can use to get an exact comparison of how much you could save by refinancing, but the general rule of thumb is that it makes financial sense to refinance if the new rate is 1% below your existing interest rate.
You’ll also need to consider closing costs. Just like taking out a new loan, you have to pay closing costs when you refinance. Experts typically recommend calculating how long it will take to break even when comparing your closing costs to your monthly savings after refinancing. If it will take longer than you plan to stay in the home, it’s probably not worth it.
Even if your loan is only one year old, it still may make sense to refinance with the low interest rates we are seeing today. While there are many types of mortgage refinancing options, the right choice depends on your specific needs. Calculate how much you’ll save and consider your financial goals to determine if it’s time for you to refinance.
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