ReFi Shy? How to Determine If Now Is the Time to Refinance

by Kentin Waits on 23 August 2013 1 comment

It appears the bargain basement mortgage rates that have been part of the economy since the Great Recession may slowly be slipping away. And as rates tick higher, many homeowners are beginning to wonder if the moment has passed to refinance. If you've been keeping a close eye on interest rates, but still aren't sure if refinancing your home is worth it, here are some important questions to ask that just may help you decide. (See also: How to Refinance Your Mortgage)

Do You Have an Adjustable Rate Mortgage?

As interest creeps higher, strategic homeowners with adjustable rate mortgages are seeing a chance to lock in lower rates now. Many buyers who jumped in the market quickly during the housing boom did so with the help of adjustable rate mortgages. Now that those rates are set to adjust upward, homeowners are refinancing and moving to fixed-rate 15-year or 30-year loans. According a recent refinance report by Freddie Mac (PDF), it's estimated that refis will account for 75% of single-family home loan originations in 2013 and about 50% in 2014.

Most homeowners typically choose to refinance either to reduce their mortgage payment or shorten the life of their loan. If you're strapped for cash, refinancing into a 30-year fixed-rate loan could help, but you may actually end up paying more in the long run because you're extending the term of your loan (and thereby, extending the interest period).

Could You Lock in a Lower Fixed Rate?

Many homeowners who've delayed refinancing and chosen a wait-and-see approach to mortgage rates are finally getting motivated to lock in a lower fixed rate, too. Even today, the rates on a 15-year or 30-year loan are lower than the historical averages we've seen over the past 40 years. For folks who initiated their fixed-rate mortgage in the early years of the housing boom and have never refinanced, current rates can still present significant savings over the lifetime of their loans.

How Long Will You Be Staying in Your Home?

For borrowers, the prospect of refinancing into a lower interest rate can be enticing, but remember — refinancing isn't free. When you factor in closing costs and the price of a new appraisal and inspection, a refi only makes sense if you plan on staying put long enough to recover the costs and benefit from the savings.

Have You Run the Numbers?

Refinance calculators can clarify in black and white the gray area that many homeowners find themselves in right now. If you're still unsure whether a refinance makes financial sense in your particular situation, run the numbers. Calculators like this one from Bankrate.com and this one from Zillow let homeowners see how their current mortgage payments would change under various refinance terms and exactly how long it would take to recoup the associated costs.

Do You Qualify?

Qualifying for a refinance isn't something homeowners should take for granted. Lenders closely review a borrower's credit score and home value when determining whether to move forward with a refi. Even if you've paid your mortgage on time month after month and even if your monthly payments will be lower under the terms of a new loan, you'll still need to apply, document income, provide proof of assets, and report job history, etc.

Check Your Credit Score

Lenders prefer a credit score of 640 or higher to green-light a new loan, but optimal rates are available to those borrowers with a score of 740 or higher. Plus, a borrower's debt-to-income ratio (that is, your gross monthly income compared the combined minimum monthly payments on debt) should be no more than 45%.

Check Your Home's Value

Before you apply for a refinance, it also helps to have a general idea of your home's current value, especially in our post-recession era when so many homeowners have been upside-down on their mortgages. Contact a licensed Realtor or go online to research recent sale prices of similar homes in your area. Lenders prefer a loan-to-value ratio (the amount of your loan compared to the total value of your home) of 80%-85%. (See also: 7 Secrets to Refinancing an Underwater Mortgage)

A New Appraisal May Mean a New LTV, and PMI

Remember, changes in your home's appraised value or in your loan amount could result in compulsory property mortgage insurance. If your new LTV ratio is more than 80%, property mortgage insurance (or PMI) will be required. PMI is a fee that guarantees your lender will be paid in the event of a mortgage default. The premiums are amortized as part of your monthly mortgage charge until your LTV ratio reaches 80% or less.

The past decade has been a wild ride for buyers, sellers, and borrowers. And, though no one is certain what the market will do or how the Federal Reserve Board may choose to slow or spur economic growth, information is still the best weapon. For proactive homeowners who are focused on the bottom line, it's always smart strategy to understand what the options are, how current rates can benefit your financial picture, and how small movements in the market can equal big changes to your budget. (See also: Buy the Same House Twice for Less Than Buying It Once)

Still not sure if now is the right time to refinance? Make an appointment to speak with a qualified lender or financial advisor. An initial consultation is usually free and the insight they provide can be a big help in making the decision that's right for you.

Have you refinanced recently? Are you considering a refinance now, before rates move up much more?

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It looks like with QE tapering beginning soon and interest rates already up almost 1% over the past couple of months, many folks may miss the boat if they haven't refinanced already.