Refinancing to a 15 or 30 year mortgage ???
Over the course of the last few years I have received numerous calls from clients asking me whether or not it makes financial sense to refinance their mortgage as a result of this unprecedented low interest rate environment. And in many cases the answer is clearly yes. Clearly the most significant factor in this decision is just how much lower your interest rate will be. In cases where the rate will decline nominally, it may not be worth the closing costs on the new loan.
When looking at refinancing there are various factors to consider. When looking at total cost, sometimes it may pay to refinance with the same lender even if the quote you receive is a slightly higher interest rate. For example in the State of NY when refinancing with the same lender, you are not subject to pay the mortgage recording tax when utilizing the same lender. That can be a sizeable expense, as much as 2% of the loan.
One major consideration is often the decision of whether or not to refinance from a 30 year loan down to a 15 year loan. While on paper this may look good for those who clearly have the cash flow to handle a higher monthly payment. However in some cases you want to look a bit past the amortization tables and the total cost of a loan over 15 years. When making this decision it is wise to think hard about things like your income or even employment stability. Life can sometimes have a habit of throwing curveballs at us when we don’t expect it. If you work in a field like sales that has many inherit highs and lows, you shouldn’t plan on the basis of your best year but rather your worst. If you feel you’re in an industry that may be somewhat suspect and your employment may be in jeopardy down the road that should weigh on your decision. It may not always be wise to lock yourself into the higher monthly cash flow. In cases like these it is worth considering taking a 30 year loan and simply paying extra monthly principal payments to equal the same result of a 15 year loan. If you make simply one extra payment per year on a 30 year loan, you’ll eliminate approximately 7 years off of the life of the loan, bringing you to a 23 year mortgage. Often this approach can give you the benefit of reducing the life of the loan and total amount paid on the home, while still giving you the flexibility to adjust in a time of crisis at a meager difference in interest rates. Virtually no mortgage company penalizes consumers for prepayment of a loan anymore. However in order for this strategy to work, one has to be disciplined enough financially to make the extra principal payments during prosperous periods. Fortunately, in this electronic era we live in today, this can easily be automated with your lender via automatic monthly payments.
It is generally a good idea for individuals of higher net worth to carry a loan in a low rate environment in order to deploy capital to areas that yield a greater overall return. Yet for the average middle income American, this is not usually the case for reasons related to behavioral finance. Some of these issues where outlined in an earlier article linked to below.
While paying down debt is a great idea longer term for the average American, this must be balanced with the need for some degree of liquidity. In some cases, committing to a higher payment is not always the best idea. Consider giving yourself the flexibility to reduce the monthly expenses, while still being fiscally responsible in the area of debt reduction when you can be.
It’s always important to consider your financial circumstance on an individual basis, and not utilize general advice. What may be suitable and clearly sensible for one individual, simply may not apply to you.
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