It may not be quite the famous question from Shakespeare’s Hamlet, but it’s one that’s very much on the minds of U.S. homeowners these days: To refinance or not to refinance?
Judging by recent numbers, there is a lot of pent-up demand among Americans looking to refinance their mortgages.
According to the Mortgage Bankers Association, the number of refinance applications increased 20% in a week and accounts for 56% of all mortgage applications.
Average interest rates on 30-year mortgages approached 8% in November last year. They stood at 6.4% on Tuesday, according to Bankrate data.
Federal Reserve Chairman Jerome Powell has signaled that further interest rate cuts from the Fed are on the way as inflation has now fallen back to bearable levels, which is likely to impact the financial system.
This means potentially big savings for homeowners.
But refinancing can be a complex process – in terms of time, documents and fees. According to lender Freddie Mac, you can expect costs of 3-6% of the loan amount.
And if you took out your mortgage years ago, your current interest rate is likely lower than current interest rates.
At what interest rate difference is it really worth refinancing?
“The general rule of thumb is that if your interest rate drops by 1-2%, it’s worth refinancing,” says Matt Vernon, head of consumer lending at Bank of America.
The interest rate is just one element of the refi decision. Here are some factors to help you decide and close the deal.
DON’T TRY TO TIME IT PERFECTLY
Trying to time mortgage interest rates is like trying to time the stock market: you’ll never be able to get it exactly right.
So if you’re offered an attractive interest rate that makes financial sense for your situation, you shouldn’t think about it too much. If interest rates continue to fall, you can always consider a second refinance later.
“For homeowners trying to time it, it doesn’t make sense to wait another year for rates to fall by (another quarter of a percentage point) when they move so much on individual days,” said Daryl Fairweather, chief economist from real estate agent Redfin. “Interest rates will continue to fall – but it will be a bumpy ride.”
FOCUS ON THE TERM, NOT JUST THE INTEREST RATE
A lower mortgage rate is one factor in the refi equation. But if you stretch out your debt, you could actually increase your total bill.
“Refinancing a 30-year mortgage on a home purchased five years ago with a new 30-year mortgage overestimates the monthly savings,” warns David Flores Wilson, a financial planner in New York City. “The new mortgage has five additional years of payments.”
Instead, think about taking advantage of the lower interest rates to shorten the term – for example to 15 years instead of 30 years. Owning a home that you paid off 15 years ahead of schedule can be a huge advantage for your retirement.
Says Jorie Johnson, a financial planner in Brielle, New Jersey: “We’re seeing a lot of interest in refinancing with a shorter term at a slightly lower interest rate and a big savings in overall interest over the life of the loan.”
CONSIDER THE PURPOSE
There are other reasons why refinancing might make sense for you.
For example, given the robust real estate market in recent years, you may have built up significant equity in your property. National real estate prices are at an all-time high, according to the S&P CoreLogic Case-Shiller Index.
That would allow you to do what’s called a “cash-out refi,” where you use some of that value toward a project like a much-needed renovation.
And if your credit score has improved significantly since you took out the mortgage, that will lower the mortgage interest rates you receive from lenders.
KEEP A LOOK
If you really want to take advantage of falling interest rates, you shouldn’t just deal with your current lender.
“There are so many tools on the internet these days that allow you to view multiple listings at once,” says Fairweather. (Among them: LendingTree, NerdWallet, Bankrate, WalletHub and GoBankingRates.)
“My best advice is to look beyond your bank and look where you have your checking account,” says Fairweather. “You probably won’t get the best interest rate there.
