Lots of recent reports are pointing to signs that the economy is finally recovering. More homes are being built, more homes are being sold and people are returning back to work. These are all good signs. However, for people that have waited to refinance, the improving economy could mean higher interest rates. Before diving in to any refinance it is always advisable for homeowners to look at the various costs associated with the loan.
Determining a Break Even Point
Banks and mortgage lenders are constantly bombarding the public with TV ads, newspaper spots and other mass media touting their low-cost refinance loans. However, a low cost to one person may be too expensive to another person. The best way to determine if a loan is a good deal is to calculate a break-even point. Let’s look at an example.
Suppose a married couple bought a home 4 years ago and financed their purchase at 5.625%. Based on the rates as of this writing the couple could possibly refinance at 3.65% for a 30 year loan. Obviously, the drop in rate would yield significant savings for the couple. Without spending too much time on details of the original mortgage, let’s assume the new payment is $200 less than the original payment. And let’s assume the costs associated with the refinance are $3,800. This would mean that it would take 19 months for the couple to recover their costs thanks to the lower payment. After 19 months the couple would be saving some money.
Now consider a couple of what ifs. What if the couple is a military family and they know they must move within 14 months? What if the husband is a rising manager in a large corporation and there is a chance he could get a promotion, in another state, within 6 months? Obviously, these two families would likely avoid a refinance.
However, what if the couple has one child and they bought a 4 bedroom home with hopes of having another child? What if the couple has two teenaged children and they moved to this area 5 years ago to be in a better school zone and close to a local college? These families would most likely stay in their home for the next several years and reap the benefit of refinancing.
Each family is different and should consider their short term needs, along with the long term needs, before considering any type of mortgage refinance.