Mortgage Refinancing in a Recession

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Point of Interest

Recessions can be tough times for the economy as a whole, but refinancing during a recession may offer some unique opportunities to lock in a great rate, lower your payments and save some money over both the short and long haul.

Managing your personal finances during a recession can get quite interesting. As the economy looks to rebound from a continued downturn, saving money where you can is a serious priority. One area you may be able to save on is with your home mortgage. Refinancing in a recession could help you to lock in low rates, lower your monthly payment and improve your financial outlook.

As of June 1, the federal interest rate, which helps dictate what interest rates are for mortgages and other loan products, was 0.25% — down from 2.50% one year ago, which could make this the prime time to refinance your mortgage. While refinancing during a recession is not always the right move for everyone — you’ll need to know how to refinance and examine whether it’s right for your situation before signing on the dotted line. Still, COVID’s impact on refinance rates could be a good fit for you and your family — especially if you’re smart about it.

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5 ways to make the most of mortgage refinancing

1. No equity? There may be a solution for you.

As a general rule, you should have more than 20% equity in your home before refinancing. Getting a traditional refinance without having 20% equity in your home can be difficult, but you may have some options either way. Historically, HARP loans were the option you could turn to in these situations. However, those programs no longer exist. In response, lenders Freddie Mac and Fannie Mae have developed two new options — the Freddie Mac Enhanced Relief Refinance Mortgage and the High LTV Refinance Option. These refinancing programs are designed for homeowners without a lot of equity built up in their homes.

2. Shop around for the best deal.

When the economy is in a recession, rates may drop as a response to efforts by the fed to boost the economy. If you are looking to lock in rates when they’re low, you’ll want to move quickly and shop around. If rates drop and become too low, demand for refinancing may increase, which could actually drive up rates with some lenders. Take the time to shop around and find the best mortgage rate possible, but don’t wait too long to get started. Remember, you have options, and you will do yourself a favor by thoroughly exploring them.

3. Evaluate your deal using the right tools.

Refinancing in a recession might only drop your interest rate by a single percentage point or a fraction of a point. While this might not seem like a big deal, it can mean thousands of dollars in savings over the life of your loan. The best advice is to use a refinancing calculator to determine exactly what you stand to save by refinancing. Compare that with the costs associated with refinancing, and if you’re still able to save money, that should answer the question of “should I refinance?”

4. Avoid cashing out.

It can be tempting to cash out to access funds when you refinance, especially during a recession. While this could be the right move for some homeowners, it might not be for all. Remember, a cash-out refinance adds to your debt by replacing your existing loan with a larger one. Yes, this puts cash in your pocket, but it also increases your liability. In uncertain economic times, this may not be the smartest move.

5. Bank the savings every month — no cheating!

As a result of COVID-19, our country is currently facing the highest unemployment rate in history. The economic outlook moving forward is not as solid as it once was.

Because of this, it’s important to maximize savings where you can, and then make sure that you stockpile some of those savings. Saving on your mortgage only helps if you bank the savings. If you take the extra money and spend it on things you don’t need, you’re eliminating many of the benefits of the refinance in the first place.

Tread softly

Before you choose to refinance in a recession, it’s important you take the time to fully understand the risks, costs and factors associated with doing so. Not only do you need to look at the COVID-19 impact on refinances, but you also need to understand the process overall. The main thing that people overlook is the cost of refinancing. You are effectively taking out a new loan, which means you will have to pay many of the same closing costs you paid with your first loan. You might not have the cash to put forward now to realize savings later.

You also need to look at the reason you are refinancing. If you are refinancing to consolidate higher-interest debt into a lower rate with your mortgage, you may be increasing your risk. Debt from things like credit cards is often unsecured, which means your credit can be destroyed if you default — but you don’t stand to lose any assets. You can lose your home when you stop paying on your mortgage because it’s the collateral backing the loan. By adding more debt backed by that asset, it can increase your risk of foreclosure if you fall on tougher economic times.

It’s also important when refinancing to look at the total cost of the loan and not just your monthly payments. It may lower your monthly payment if you refinance your loan for a longer term — but it could also increase the cost of your loan overall. For some people, this still may be optimal because lowering your payment size and paying more over time is always better than defaulting on your loan.

The final word

Refinancing in a recession may give you the ability to lower your payments, save on interest and cash in on lower rates. Still, just because you see the rates dropping does not mean it’s the right move for you. Answering the question of whether you should refinance involves a look at your loan, current interest rates and the cost of the refinance. If the numbers line up, you could find yourself in a much better financial position, which is always welcomed in turbulent economic times.