Should You Refinance?
There used to be a rule of thumb that you shouldn't refinance until rates had dropped a full 2 percentage points. That thinking is not all wrong. If you're going to apply for a new loan and pay the fees to do it, it makes sense to make sure you have significant savings to show for it. The idea is to recover your loan costs as quickly as you can.
Be careful with cash-out refinances. Make sure your lender isn't jacking up your rate for a high (80 percent or more) loan-to-value (LTV) cash-out refinance. See if you could reduce the LTV rate for the loan. It'll save you money. Also, don't get in the habit of taking cash out of your house.
There are other factors that can help you decide. If you're planning on moving in the next year or two, then maybe it's a good idea not to refinance right away. But if you are planning on staying in your property for a longer period, even a 1 percent drop in your rate can make a big difference in the long run. And if you go back to Chapter 8, you can quiz lenders harder on what you should be paying to get that refinancing loan.
Refinancing isn't as casual a process as some lenders would have you think. You are in fact applying for a whole new loan, and you will need to go through a whole new round of credit appraisal to get it done. Always think about cleaning up your credit before you attempt to refinance.
The first thing you need to do is determine what your after-tax savings would be from the loan you've chosen. Start like this. Say that you are presently paying $2,000 a month in your current mortgage, and the new loan would drop your payments to $1,650. That's a $350 savings before taxes. You have to remember that with lower payments, you'll also be getting less of a tax break, so now you need to figure out what your after-tax savings are.
If your tax bracket is 28 percent, then you need to multiply that savings by your bracket (.28 × 350), which gives you $98. This is the amount you need to subtract from your pretax savings ($350 - 98), giving you an after-tax monthly savings on the new loan of $252.
Then see how many months it would take to pay off all the costs related to the loan based on that savings.
Now, assume your total closing costs for this loan are $3,000. Divide your total closing costs by your after-tax monthly savings ($3,000 ÷ 252) to give you a total of 11.9 months to pay off the cost of the refinance. Does that work for you? Only you can decide.
When you take out a loan to buy a house, the IRS lets you deduct the value of the points you paid in the year you paid them. In a refinance, however, you have to divide the points you pay over the term of the loan. However, if you refinance again, you'll get to deduct the unamortized portion of those points at that time.
In most cases, yes. Lenders don't like to do anything for free. But here's a question to ask: Would your lender modify your loan agreement to the lower rate? This can get a little complicated, but if your lender hasn't resold your loan, and you act politely and knowledgeably about the subject, you just might be able to lower your payment without weeks of waiting and paying new fees. It's definitely worth asking about. The worst that can happen is that your lender will say no.
