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When Does Refinancing Make Sense?

Everyone is talking about refinancing now because rates are mind-bogglingly low.  Refinancing can make sense, but you want to ask yourself one key question: How long will I stay in this property?  Refinancing and whether it makes sense revolves around the answer to that question.

If your answer is: 

  • Less than 3 years - don’t bother refinancing except in rare circumstances, because you will probably not make back the fees you spend to do it.
  • Less than 5 years - do the calculations to see if the reduction in rate pays for the fees. 
  • Over 5 years - consider it!

How do you know what the fees are and whether they make sense?  Well, in an urban area, you can expect $3-4k of LENDER fees including lender origination fees, processing fees, and any admin fees. THESE FEES ARE NOT THE SAME AS TITLE FEES AND TAXES. Those are separate fees and you pay them with any refinancing. You want to focus on Lender fees to compare mortgage deals. 

To know if the fees make sense, figure out how much you will be saving each month with your new rate after refinancing.  If, for example, you are saving $110/month with your new rate. Take your fees and divide them by the savings.  For example, $3000 of fees divided by $110/month is about 27 months (3000/110=27.27).  If you do NOT plan to live in the house for at least 27 months, this is not a good deal to do, which is why living in a home at least 3 years after refinancing is a good rough guide. 

When you refinance, you’re looking for a good rate that is significantly lower than your current rate. “Significantly” means something different for everyone, but you would want at least 0.75% reduction in rate to make the hassle worthwhile.  If you’re unsure, get the quote and see if the saving is significant and worthwhile in terms of how long you expect to live in the property. Do the math as shown above, but as a rough guide you would want a reduction of at least 0.75%.

There are other things to think about like resetting the mortgage clock. If you’ve been paying more than 3 years on your mortgage, you may not want to reset the mortgage clock back to 30 years. You can consider a 15-year mortgage, but most people can’t handle a 15-year mortgage payment since it can be materially more than you’re paying now. You can also pay the amount to your mortgage each month that would be required to pay it off in the number of years you currently have remaining. There are a lot of calculators online to help you figure that out or ask your mortgage broker to help you AMORTIZE your loan as if you were paying it off with the same amount of years remaining on your current mortgage. 

 

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