Mortgage Refinancing: Lower Your Rate or Change Your Terms

When you refinance, a new lender pays off your existing mortgage and issues a new loan. You go through a process similar to your original purchase, including a credit check, appraisal, and underwriting. The new loan replaces the old one, and you begin making payments on the new terms.

Refinancing resets your loan term. If you have 22 years left on a 30-year mortgage and refinance into a new 30-year loan, you restart the clock. Many homeowners choose a shorter term, like 15 or 20 years, to build equity faster and pay less total interest.

Refinancing is not always the right move. Consider it when:

• Rates have dropped at least 0.5% to 1% below your current rate. The savings should exceed your closing costs within a reasonable timeframe.
• Your credit has improved significantly since your original loan. A higher credit score can qualify you for a better rate even if market rates have not changed much.
• You want to eliminate PMI. If your home has appreciated and you now have 20% equity, refinancing into a conventional loan removes private mortgage insurance.
• You want to change your loan term. Switching from a 30-year to a 15-year mortgage reduces total interest paid, though monthly payments will be higher.

Calculate your break-even point by dividing your closing costs by your monthly savings. If you plan to stay in the home past the break-even point, refinancing likely makes financial sense.

There are two primary types of refinance:

Rate-and-term refinance changes your interest rate, loan term, or both without borrowing additional money. This is the most common type and typically offers the lowest rates.

Cash-out refinance lets you borrow more than you currently owe and receive the difference as cash. Homeowners use cash-out refinancing for home improvements, debt consolidation, or other major expenses. Cash-out refinances carry slightly higher rates because the larger loan amount increases lender risk.

Refinancing involves closing costs, typically 2% to 5% of the new loan amount. Common fees include:

• Application and origination fees
• Appraisal fee ($300 to $600)
• Title search and insurance
• Recording fees
• Prepaid interest and escrow setup

Some lenders offer "no-closing-cost" refinances, but they compensate by charging a slightly higher interest rate. Over time, this can cost more than paying closing costs upfront.

Also consider the impact on your tax situation. Mortgage interest is deductible, but the rules depend on when you took out the loan and how much you owe. Consult a tax professional for advice specific to your situation.