Three situations when refinancing might be a bad idea
Refinancing your mortgage may not always be the right course of action.
While the savings can be quite substantial in some cases, there are instances where the fees that you will pay for a new loan can erode your cost saving making it almost a worthless endeavor.
I can think of three specific situations when refinancing might be a bad idea.
The first is if you have been paying on your home for several years.
Most homeowners realize that they pay a significantly larger portion of interest rather than principal earlier in their loan’s life.
As you continue to pay down your balance, that ratio begins to shift, and you find yourself paying a more principal than interest later in the life of the loan.
If you refinance your home into a loan that's the same length as your existing mortgage the interest rate and monthly payments may be less but you start that process all over again.
The majority of your home loan payments go towards interest rather than paying off your debt. As the years drag on, you wind up spending more on interest than you would have if you'd stuck with your original home loan.
This is why many borrowers opt for higher payments and shorter mortgages when they refinance.
The cost savings from grabbing a new mortgage may not pay off if you are moving sooner rather than later.
There is a specific breakeven point that you need to stay in your home after redoing your loan in order to make the savings start outpacing the fees that you paid.
When you refinance you usually must pay 3% or more of the balance in loan origination fees to obtain a new mortgage. It can take several years for your monthly savings to being to pay off that upfront new loan fees.
Because of that it only pays to refinance if you are staying in your home several more years.
You also have to weigh the cost if you will have to pay your mortgage lender a prepayment penalty.
While paying off your home loan is a good thing for the borrower, it is not always the best deal for the lender. Many lenders, especially those who still hold older home loans, may have a prepayment penalty that would impose a fine on you if you tried to pay off your mortgage earlier than its stated terms.
Depending on how much the penalty was for paying it off early, those fines may eat away at the savings you would have enjoyed from a new home loan.
This refinancing calculator can help you decide whether a new home loan is right for you.
Follow Interest.com on Twitter.