Should I Refinance my Home to Access Home Equity?

Key Takeaways

• Though interest rates have risen, you can still refinance before the Fed raises rates again.

• To refinance, you’ll complete the same process as applying for your first mortgage. This includes verifying income, appraising the property and closing.

• Determine your break-even point – the point at which savings from refinancing have covered closing costs and begin reducing your monthly payment.

The largest asset most people own is their home, and paying the mortgage is usually the largest monthly expense. Depending on interest rates, refinancing may open the door to a better mortgage and lower monthly payments.

Refinancing may prove beneficial even though the Fed has recently raised interest rates. You may consider refinancing your home’s mortgage not only to lower how much interest you pay, but also to consolidate other debts, access home equity or eliminate private mortgage insurance.

If you’ve decided that refinancing is right for you, the next question to answer is “when.”

When Should You Refinance?

One of the most common incentives to refinancing your mortgage is to reduce monthly payments by obtaining a more favorable interest rate. Generally, refinancing will save money when you can reduce your interest rate by 2% or more.

Refinancing will also enable you to build equity in your home faster. This is because a lower rate means that you pay more toward the principal mortgage amount rather than the interest.

Even with rising interest rates, determining whether a refinance will cut costs involves more than simply comparing rates.

Considerations include:

• Whether the new mortgage would provide greater after-tax savings

• How long you plan to remain in your home

• The closing costs of the new mortgage

Refinancing typically takes about 30 to 45 days. While interest rates have risen, you may still lock in a more favorable rate before they rise again.

Why Should You Refinance?

Refinancing reduces expenses, but there are other benefits as well. You may also choose to refinance for one of the following reasons.

BONUS READ: Should I Refinance My Mortgage?

1. To eliminate private mortgage insurance

If you purchased your home without making enough of a down payment, you likely had to purchase a private mortgage insurance (PMI) policy.

When your home’s value rises, however, refinancing may allow you to eliminate your PMI policy. As home values rise, you build equity more quickly and increase your stake in the property. This makes you a less risky borrower to the lender.

As home values continue to skyrocket, refinancing may help you terminate your PMI policy.

2. To shorten your mortgage term

Refinancing is also a tool used to convert a 30-year mortgage into a 15-year mortgage. Often, this will not significantly affect your monthly payment.

For example, if you obtained a 30-year mortgage for $300,000 at an interest rate of 9%, you would pay about $2,414 per month. Cutting that rate to 5% on a 15-year mortgage would lower your payment to $2,372 and allow you to pay off your home faster.

3. To access home equity

Certain financial situations require cash. Covering an emergency, paying for a child’s college costs, funding a home renovation, or even consolidating higher-interest debt leads some homeowners to refinance their homes.

Before taking this step, make sure accessing your home’s equity is financially sound.

Consolidating and paying off high-interest debt can help many people to improve credit profiles and scores while reducing monthly costs. Once you’ve paid off your credit cards or installment loans, however, you must hold yourself accountable and resist the temptation to rack up more debt.

4. To change the type of mortgage

Most homeowners have either an adjustable-rate mortgage (ARM) or a fixed-rate mortgage (FRM). Whether to switch depends on economic conditions and current interest rates.

For example, periodic adjustments to an ARM’s interest rate can lead to higher-than-expected payments. Even though the loan may have begun with lower monthly payments, you may see that the rate has become unaffordable several years into the mortgage. If rates on FRMs are lower, it would be worthwhile to refinance.

On the other hand, an economy with decreasing rates would see periodic decreases to an ARM. In that environment, the interest rate for an ARM may fall below that of a FRM.

How to Refinance a Mortgage

If you’ve decided to refinance, you must obtain an entirely new mortgage. You then use the new one to pay off the existing mortgage.

The process occurs the same way as it did when you obtained your first mortgage. You must apply for lender financing, prove your income, provide credit and debt statements, and pay closing costs (e.g., origination, appraisal, title, and credit report fees). Closing costs usually range from 2% to 6% of the amount borrowed.

You’ll need to know your exact closing costs to determine your break-even point. This is the point at which the savings from a lower interest rate match the closing costs.

Whether the break-even point makes sense depends on how long you expect to remain in your home. For example, if your break-even point is at 30 months but you only plan to stay for 20 months, then refinancing may not be a sound decision.

If you’re determining whether to refinance, consider the potential pros and cons as they apply to your situation.

Pros

• Lower interest rate

• Lower total interest paid over the life of the loan

• Faster mortgage pay off

Cons

• Higher monthly payment

• Less financial flexibility

Accessing Home Equity? Unlock Technologies Can Help

One reason homeowners decide to refinance is to access their home’s equity. Home equity is used to cover unexpected expenses, pay for renovations, pay off credit card or other unsecured debt, or to fund large costs like college tuition.

If you need cash, you can also consider the home equity agreement (HEA). Rather than refinance your mortgage, obtaining a HEA can be a simple, straightforward process. There are never any installment payments or interest fees.

Contact Unlock Technologies today to get started.

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