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MORTGAGE REFINANCE

Determine If Mortgage Refinance Makes Sense For You

Written By:
December 18, 2012 at 1:08 AM

Mortgage Refinance Loan Application

As mortgage interest rates continue to plummet and inflation remains under the Federal Reserve two percent benchmark, more and more people ask the question: Should I Refinance My Mortgage? Even a just a slight difference in the interest rate on a 30-year fixed-rate mortgage can make a significant difference.

You should run various scenarios to decide whether you would benefit from a mortgage refinance other if you would lose on the proposition. Of course, your interest rate will depend on your credit score.

Scenario # 1

Homeowner John has a $275,000 mortgage balance at an interest rate of 5%. He has made one year of payments and wants to refinance. His monthly loan payment is $1,476.26. Of the $17,715.12 total payments made, only $4,057.26 is applied toward the principal and $13,657.86 goes to interest. John plans to sell the home at the end of 7 years.

Loan term Existing mortgage Refinancing Difference
Loan balance $275,000 $281,750 $6,750
Interest rate 5.00% 3.40% -1.60%
Loan term (in months) 352 360 8
Monthly Payment: $1,476.26 $1,207.68 -$268.58
Total interest payments $247,325.60 $162,446.30 -$84,879.30
Total payments $531,453.30 $434,764.10 -$96,689.20
7 years out Existing mortgage Refinancing Difference
Loan balance: $275,000 $281,750 $6,750
Interest rate: 5.00% 3.40% -1.60%
Loan term (months): 352 360 8
Loan payment: $1,476.26 $1,207.68 -$268.58
Total interest paid: $89,733.30 $60,150.51 -$29,582.79
Loan balance: $238,045.20 $231,023.30 -$7,021.90
Total payments: $124,005.80 $101,445.00 -$22,560.80

 

Refinancing reduces John’s mortgage payment by $268.58 per month. According to the Federal Reserve closing cost run 3-6 percent of the refinancing amount. In this example we used 2 points and $1,250 miscellaneous closing costs like insurance and fees that total $6,696.35. Offset with a savings of $268.58 a month, it will take John about 2.1 years to recover the closing costs without calculating that he could invest the savings of $268.58 per month and earn interest. For John refinancing would make financial sense as long as he stay put more than 2.1 years so he can break even on mortgage refinance. Over a planned stay of 7 years John will save $29,582.79 in pretax interest expense while reducing total payments by $22,560.80. To use your loan amounts and interest rates to calculate should you mortgage refinance use our Mortgage Refinance Calculator.

Scenario #2

In this example, the interest rate is not as good at 3.8%, but John still reduces his monthly payment by $187.40 per month or $2,248.80 a year with a 3.85% mortgage interest rate. It will take John just over 3.6 years to recoup closing cost. Since he plans to stay put for seven years, it works to his financial advantage to complete a mortgage refinance and save $21,272.78 in pretax interest expense while reducing total payments by $16,767.40. Use our Mortgage Refinance Calculator to see how we got these results or use your loan amounts and interest rates and see if you should refinance today.

Loan term Existing mortgage Refinancing Difference
Loan balance $275,000 $281,750 $6,750
Interest rate 5.00% 3.85% -1.15%
Loan term (in months) 352 360 8
Monthly Payment: $1,476.26 $1,276.65 -$199.61
Total interest:
$247,325.60 $162,446.30 -$84,879.30
Total payments: $531,453.30 $459,593.30 -$71,860
7 years out Existing mortgage Refinancing Difference
Loan balance: $275,000 $281,750 $6,750
Interest rate: 5.00% 3.85% -1.15%
Loan term (in months): 352 360 8
Loan payment: $1,476.26 $1,276.65 -$199.61
Total interest paid: $89,733.30 $68,460.52 -$21,272.78
Loan balance: $238,045.20 $231,023.30 -$7,021.90
Total payments: $124,005.80 $107,238.40 -$16,767.40

 

Scenario # 3

What happens if John cannot qualify for the lowest interest rate of 3.40%, which is reserved only for people with the best credit score and he gets a 4.5% interest rate, John saves only $96.47 a month or $1157.64 per year. With closing cost of $6,696.35, it will take John more than 6 years to recover the closing costs. It would not be to his benefit to refinance his mortgage if John doesn’t plan to stay in his house more than 6 years. To see this calculation and a savings graph use our Mortgage Refinance Calculator. The best advice for John in this situation is to wait until his credit improves or use a service for credit repair in order to capture large savings shown in Scenarios #1 and #2.

 

Loan term Existing mortgage Refinancing Difference
Loan balance $275,000 $281,750 $6,750
Interest rate 5.00% 4.50% -.50%
Loan term (in months) 352 360 8
Monthly Payments: $1,476.26 $1,379.79 -$96.47
Total interest payments $247,325.60 $224,408.10 -$22,917.50
Total payments $531,453.30 $496,725.50 -$34,727.80
7 years out Existing mortgage Refinancing Difference
Loan balance: $275,000 $281,750 $6,750
Interest rate: 5.00% 3.40% -1.60%
Loan term (in months): 352 360 8
Loan payment: $1,476.26 $1,207.68 -$268.58
Total interest paid: $89,733.30 $80,572.95 -$9,160.35
Loan balance: $238,045.20 $236,988.00 -$1,057.2
Total payments: $124,005.80 $115,902.60 -$8,103.2

If John pay down his mortgage for ten or eleven years, that would be another factor for him to take into consideration. Depending on the difference in the existing and new interest rates and the further along a borrower is in the mortgage, it may be best to keep the existing mortgage. Taking on a new mortgage could result in the homeowner ending up paying more interest.

Use the Mortgage Refinance calculator to determine if you should refinance your mortgage.

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