Once you have been in the mortgage business a while it dawns on you that it’s not a cliche. For most folks their mortgage is the biggest debt they will ever have and the house is the biggest single investment most customers will make. This realization combined with today’s low rates allows an interesting reassessment of refinancing for most customers in today’s low rate environment.
The traditional thought over the last few years has been to take every drop in rate as an opportunity to save money monthly. The usual strategy has been simple; a drop in rates equals a drop in monthly payment. Most folks who have had more than one mortgage in their lives have followed rates down into the low 6%s or high 5%s.
This drop in interest rates is different though. The financial statements we see from customers every day have several negatives compared to those of a year or two ago. The retirement accounts are smaller and the value of the property has dropped, reducing the average equity in the home. Combine this with adjustable rates and the stereotypical 30 year fixed refinance may not make sense.
This combination has caused people to reasonably reassess the remaining time on their mortgage. If you have been paying a loan for five or ten years, going back out to 30 years can often not be a worthwhile trade for $100 per month in savings. Many clients are now opting for 20 or 15 year fixed loans with the modest increase in payment being worth it for the long run savings.
How much savings you may ask? Well the answer depends on a combination of the interest rate, balance and length of time the current loan has been in place combined with the interest rate for the new mortgage. This calculation should be done though and a sample of how it should look can be found here.
In simple terms though a $200,000 30 year fixed at 6% that has been in place for 3 years can be refinanced to 5.25% on a 30 year fixed today. This refinance would drop the payment by $95 per month. With 324 payments remaining the life time savings of the loan would be just over $30,000. However, moving to a 20 year fixed would reduce the available rate to 5.125%. The monthly payment would increase by $133 per month over the current payment. This is a nominal amount for most family budgets.
This additional investment would eliminate the mortgage seven years earlier than the current plan and ten years earlier than refinancing. The elimination of seven years of payments at $1200 per month would save this family over $100,000.
For most families this strategy is a winner on two key fronts. The additional principal pay down can help rebuild equity lost in the housing crisis. The elimination of years of payments on the back end of the loan can help retirement or college planning.
The changes in our finances over the last couple of years mandate that we look at our mortgage in a new way. Run the numbers and see if taking advantage of today’s interest rate market and reducing your term could work for you.
