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Has the window closed to refinance my mortgage?

Rising interest rates impact many homeowners’ refi decisions.

By Andy Smith, Executive Director of Financial Planning

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Last updated: September 26, 2022 |

Article published: May 13, 2022

Lenders typically increase the price to borrow money whenever the Federal Reserve acts. With interest rates on the rise and the Fed suggesting that more hikes can be expected this year (leading economists predict two back-to-back half-point increases over the next couple of months), many homeowners are wondering if refinancing is still a worthwhile option.

Interest rates paint a picture of the market

Interest rates jumped more than 50 basis points (BPS) in mid-March, the largest two-week increase in more than a decade. According to the Black Knight Mortgage Monitor, the 30-year fixed-rate mortgage increased by more than 125 BPS in the first quarter of 2022, marking the sharpest 12-week rise in 27 years. This has put some pressure on both refinance incentives and affordability for many homeowners.

When to refinance mortgage

If you stand to secure a better interest rate, the monthly savings may make refinancing worthwhile, even as rates tick upward. And acting sooner rather than later will ensure you lock in the better rate before they rise again. So, how do you know if it makes sense now?

Some experts suggest refinancing if you can reduce your current interest rate by about 1% or more. A 30-year fixed-rate mortgage is currently averaging at about 5%, so a refi probably only makes sense if your current interest rate is near 6% or higher.

Keep in mind that refinancing will reset your term to 30 years and also comes with closing costs, which can include origination and application fees, appraisal and inspection costs, and title search fees. In total, closing costs can be 3% to 6% of the total loan amount, so you need to factor that into the equation to determine your overall savings. Here’s how: Divide your total closing costs by the amount you’ll save each month, giving you the number of months it’ll take to break even. The less time it takes, the more sense it makes to refinance.

While you also have the option to refinance your 30-year mortgage into a 15-year fixed rate, we don’t generally recommend that course of action, even if you can afford the higher monthly payments. Mortgages are the cheapest money you will likely be able to borrow. They’re also tax-deductible and tax-favorable, with every dollar you pay in mortgage interest saving you 35 cents in federal income taxes. So, keep that longer term, preserving your liquidity and giving you the flexibility to put those funds into other investments.

Should I still consider refinancing now?

Ultimately, the decision of whether to refinance comes down to your own personal threshold for savings.

Everyone’s entry point and value perception are different. The most important thing to remember is that it’s never a bad idea to do some research, ask questions and see what could be fruitful for you.

As you’re deciding whether to refinance, you’ll need to have these key pieces covered:

  • Your long-term plan. If you plan to move out in the near future, you may not break even on the refi closing costs.
  • Your credit score. To get the lowest rate, you’ll need a 740. Most lenders won’t qualify you for a refinance at all with a score lower than 620.
  • Your debt-to-income ratio. Generally, you’ll want to ensure this is no higher than 43%.
  • Your home equity. You typically need at least 20% equity in your home to qualify for refinancing.

If I can’t refinance, what should I do?

If refinancing doesn’t make sense now, look holistically at your overall financial plan. What do your cash flow and expenses look like now versus two years ago? What’s your plan for the next five years?

Take a step back and review the big picture. Does it make sense to become your own refinancing machine by investing more? Clients coming to us for the first time often don’t have an all-points plan yet. At Edelman Financial Engines, we can run scenarios and cover these issues in regular meetings. If there’s an opportunity to do something different, we’re covering that in our planning, so you’re poised to make the right call for your financial future.

 

Material discussed is meant for general illustration and/or informational purposes only, and it is not to be construed as tax or legal advice. Although the information has been gathered from sources believed to be reliable, we do not guarantee its accuracy or completeness.

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