Should I Refinance Now?
Due to a variety of market-based factors, interest rates remain near historically low levels, providing a refi-friendly environment for those who’ve yet to get in on the act.
There is a distinct possibility that years from now we’ll look back at 2020 and early 2021 as the golden era of refinancing, a relatively brief period where national average interest rates plunged well below 3% and many homeowners were able to cut mortgage payments by thousands of dollars a year* through a simple refi. Deep in the rearview mirror of time, it will make quite a story.
The fact is, however, that this golden opportunity to refinance is still with us and available right now to millions of Americans who own a home—a list that may include you. Due to a variety of market-based factors, interest rates remain near historically low levels, providing a refi-friendly environment for those who’ve yet to get in on the act.
And that’s news to some homeowners who may be under the impression that these once-in-a-generation mortgage rates have passed them by. According to the mortgage data analytics company BlackKnight, as of March 2021 roughly 13 million Americans remain eligible for high-quality refi savings, a diminished but still significant portion of the population.
While there’s always some organization and effort required on behalf of the homeowner to obtain a refi, the benefits far outweigh the time commitment, especially when you’re working with an easy-to-use digital platform that makes getting a refi a simple, pain-free experience.
Refinancing and interest rates
It’s best to begin any refinance journey by understanding the relationship between the interest rate you received when you originally purchased your home, and the rates currently available in the marketplace. You’re looking for a lower mortgage rate, low enough that after closing costs and associated fees you can lock-in tangible savings. Your lender can help with that.
Taking a step back for a moment, it’s worth outlining that there are four main costs that comprise your monthly mortgage payment:
Principal
Interest
Taxes
Insurance
Out of these four, the only one you can hope to alter with a refi is the interest payment. But that doesn’t mean a refi can’t deliver transformative savings. Interest payments, as any homeowner knows, are a substantial recurring expense and they can eat into monthly budgets with unerring regularity. Think about it for a moment: If you were presented with an opportunity to reduce the
amount of interest you pay by $50, $100, $200 a month, you’d certainly look into it, right? That’s the inarguable logic and timeless appeal of a refi.
Beginning in early 2020—even before the COVID-19 pandemic and the Fed’s policy intervention—mortgage interest rates were falling dramatically*to levels not seen in a generation. While mortgage rates were already spurring a minor homebuying boom the year before, this further drop created a genuine frenzy in the marketplace, especially for those who realized conditions for a refinance were never going to be more favorable.
With average rates hovering a tick below 4% and then suddenly dropping to 3.5% and then falling further and further as the year went on, both homebuyers and those eager to refinance saw opportunities to save money in previously unimaginable ways. Lenders were flooded with refinance requests—to such a degree, in fact, that some of them had to put the brakes on processing. It was a crazy time. And while no one was spared the societal turbulence caused by the pandemic, many were able to find a silver lining in the immense savings of a home refinance.
What kind of refinancing makes sense to you?
While most people do a refinance for the reasons we’ve just outlined, there are multiple motives for contacting your lender and refinancing your home.
For example, you may want to leverage existing equity as part of a cash-out refinance to help consolidate debts, pay college tuition or make a significant purchase such as an investment property. A cash-out refi can also help you access funds for home renovations—something that’s increasingly popular.
Then there’s the loan product itself. Maybe you’re apprehensive of a future spike in interest rates and want to get out of that adjustable rate mortgage while the going is good. Many homeowners are doing just that and switching to a fixed rate mortgage with low interest rates and greater predictability. Clearly, refis can be empowering; they can allow for savings and they promote flexibility.
Simply stated, a refinance is a whole new mortgage agreement. You can get your refi through your original lender or you can explore refinancing options on the marketplace. To simplify the process, try to find a lender with knowledgeable loan officers who can help you find the best rate.
Let’s take a deeper look at some of these refinance options.
Rate-and-term refinance
This is your basic refi and it’s the one that most people are rushing to obtain while mortgage rates remain attractive. The appeal is considerable. Even by adjusting your mortgage rate by a mere 1.0 or 0.5% percent, you can potentially reap considerable savings on both a monthly and annual basis—but the real savings are over the life of the loan. Sometimes many thousands of dollars can be saved. Let’s look at an example using the Guaranteed Rate Refinance Calculator:
Let’s say that in October 2018, you purchased a $400,000 home with a 30-year fixed mortgage at 4.83%. Assuming a 30-year mortgage and a 20% down payment that brings the loan down to $320,000, monthly payments would be $2,072.
Refinancing in 2021 with today’s more agreeable mortgage rates of 3.0%, your total monthly payment could be $1,653.
$2072 - $1653 = $419 in potential savings per month.** Over the next 30 years that could add up $38,565.***
Still need a reason to justify the refi?
Switch from an ARM to a fixed rate
An adjustable rate mortgage (ARM) certainly has its appeal. It’s a type of mortgage that combines an initial period consisting of a low fixed rate followed by an adjustable rate period for an agreed-upon set of years (typically, 5, 7 or 10) that resets every six months (or annually) based on general market conditions. These market conditions are a combination of the predetermined lender margin plus the rate provided by relevant financial indices like LIBOR and SOFR. During the adjustable period, rates can swing in either direction. This could mean savings or it could mean pain; no one has a crystal ball. For many people, even 50-50 odds aren’t optimal.
This is where a refinance comes in. Don’t like the original terms that set you up for 10 or 20 years of adjustable rates? No problem. Talk to your lender and change the terms (and if you like, the duration) of your mortgage.
Switch from a 30-year mortgage to a 15-year mortgage
Many homeowners are racing to refinance their home not only to get a more favorable interest rate or switch out of the unpredictability of an ARM, but also to change their amortization schedule to more rapidly pay off the loan in full.
That’s right. A refinance not only allows you to change from an ARM to a fixed rate (or vice versa) but also from a 30-year mortgage to a 15-year mortgage. This can be helpful in three key ways:
A 15-year mortgage almost always comes with a more favorable interest rate.
As you pay off your principal in larger chunks, you amass equity more quickly. This equity can be tapped for other purposes, if need be.
A 15-year mortgage will allow you to pay off your mortgage more quickly, enabling you to put the bulk of homeownership costs behind you and begin enjoying your life without a mortgage hanging over your head.
And yes, monthly payments will increase as you transition from a 30- to a 15-year mortgage. However, if you’ve budgeted properly it’s precisely the kind of opportunity cost you’re willing to make. An examination of personal finances is essential. For example, if your income has increased since you signed your original mortgage agreement, you may be in a good position to better absorb the increase, especially in light of a faster route to full ownership.
Cash-out refi
While not as common as a rate-and-term refi, the cash-out refi is a great way to leverage existing equity to acquire funds for home improvements, investments, one-off purchases or to consolidate debt and pay it off in one lump sum. Because you’re reducing equity you’re increasing risk, and lender’s rates will reflect that. As a result, don’t expect to receive the same low rates that you would get with a rate-and-term refi. However, there may be other advantages. When seeking a cash-out refi for certain home improvements, there are potential tax savings that can be obtained. Inquire with your tax advisor to determine if any tax-related savings are applicable to your circumstances.
Like all the previously discussed refi options, a cash-out refi requires a completely new mortgage agreement as well as a thorough approval process that includes a credit check, credit score, an examination of debt-to-income ratio (DTI), income, available assets, etc. Making sure to get preapproved by your lender is a handy way to accelerate and optimize the underwriting process.
One particular point of interest for lenders is loan to value or LTV. For most conventional cash-out refinances done via the guidelines set by Fannie Mae and Freddie Mac, the maximum LTV allowed is 80% before you’re forced to purchase private mortgage insurance (PMI) to offset the additional risk. This means that you can tap a maximum of 80% of the existing value of your home (value determined by an appraisal--not original purchase price) while having established a minimum of 20% equity through principal mortgage payments.
Under this refi recipe, it will likely take at least a few years to achieve the requisite 20% equity necessary to qualify for a cash-out refinance. If your monthly statement says you’re somewhere south of that figure, you’ll need to find another way to procure the funds. However, once you’ve passed the 20% threshold, you’re eligible for the loan if everything else is good to go.
Refi: A few things to consider
In the current interest rate environment, refinancing your home—for whatever purpose—has a lot going for it, and there’s a reason millions of Americans have done precisely that over the last 18 months.
However, it’s not necessarily all smooth sailing. Let’s look at a couple things to bear in mind when considering a refi:
Appraisal: You will need to conduct a home appraisal at your own expense. Not a big deal, but it’s particularly important in the context of a cash-out refi as the appraised value of your home will determine how much money you can take out. While a well-maintained home in a nice neighborhood tends to appreciate, there are no guarantees.
Credit examination: Maybe you thought you’d be exempt this time around having undergone this scrutinizing process during your original mortgage. Think again. Everything from your latest credit score, DTI, income and available assets will be reviewed to ensure you’re a low-risk candidate with proven creditworthiness.
Seasoning period: Let’s say you just purchased your home and then read online that mortgage rates fell 1%; you might want to take the opportunity to lock-in a lower rate by refinancing your mortgage, right? Good idea, but there’s a hitch: Although Fannie Mae and Freddie Mac don’t typically object, your lender may require a waiting period of up to 120 days before allowing you to refinance. This is the “seasoning period.” Choosing a new lender may alleviate that problem. Additionally, nonconventional mortgages such as those offered by the VA and FHA have strict seasoning periods of 210 days. For USDA loans it’s 180 days.
Closing costs: A refi isn’t an addendum to your original mortgage; it’s a whole new thing, and whether you're changing terms, changing rates or tapping equity for cash, your refinance will incur many of the same charges you had at the time of your initial mortgage, including closing costs that could total anywhere between 2-6% of the entire loan. This shouldn’t dissuade anyone from seeking a refi; it’s just prudent to know what’s in store.
Refi, FOMO and the lay of the land
When you stop and think about it, a refi is an extremely valuable tool to leverage for possible savings and financial flexibility. And this opportunity begins with the American Dream of homeownership. From there, it’s about building up equity and waiting for the opportune time to contact a Guaranteed Rate loan officer and see if you’re a good candidate for refi savings.
And while some borrowers might think the optimal moment to refinance has already passed, evidence of a lost opportunity just isn’t there. Admittedly, Q2 2021 mortgage rates may not match the historic lows of late last year—but it’s pretty close. Whether you’re looking for a 30- or 15-year mortgage, current rates are not demonstratively out of line with the 50-year lows seen last fall and over the winter. As we move away from the pandemic and the economy begins to rapidly expand, there’s no guarantee mortgage rates will still be at these same levels in six months or a year from now. If you find the idea of a refi appealing, it can’t hurt to do a little research today and see if a refinance is right for you.