How can you figure out whether it makes sense to refinance your mortgage?
This is an easy question for some homeowners--if you have a double-digit interest rate on your mortgage when rates have dropped to below 8 percent, there's no question that you'll save money by refinancing. Even if you refinanced two years ago, refinancing again may make sense if interest rates have fallen a point or two.
Or you may need cash to pay college tuition. Borrowing the money on your home equity and deducting the interest is almost always going to be cheaper than taking out an unsecured loan.
For other homeowners, the question is more difficult. You may want to do the following:
Compare interest rates to figure out how much you would save on your monthly payments, based on the life term of the mortgage. For example, on a $100,000 mortgage, a mortgage interest rate of 7 percent versus 8 1/2 percent results in a savings of about $100 a month, or $1,200 a year on a thirty-year loan. To more precisely calculate the difference, you will want to get an amortization chart from a banker or real estate agent. Compare what you're currently paying each month in principal and interest with what you would be paying on the new loan.
Include the costs of points, closing costs, title insurance, and other expenses for the new mortgage. Some lenders offer no-fee mortgages with rates maybe a quarter point higher but with virtually no up-front fees, closing costs, or points. This makes sense if you expect to sell or refinance within a few years, but not if you'll be paying those higher rates year after year.
Calculate the difference between your current payment's after-tax cost versus your future payment's after-tax cost. Because Uncle Sam gives you a tax break on mortgage interest (15 to 31 cents per every dollar of interest paid, depending on your tax bracket), it's important to figure the tax break into your calculations, especially if you are (or expect to be) in the top tax bracket. Multiply the annual interest you pay currently by .15 or .31, depending on your tax bracket, to figure out your current tax savings. Then multiply your annual interest paid on the new loan by the same number. For example, if you're currently paying $7,800 in mortgage interest annually ($650 per month) and you're in a 31 percent bracket, you currently have an annual tax savings of $2,418 ($7,800 multiplied by .31).
Compare rates and charges between several lenders, including your current mortgage servicer.
Consider switching from a thirty-year to a fifteen-year mortgage. You may be able to pay off your loan in half the time without increasing your monthly payment by much.Note that the amount remaining on the loan must be less than your home is now worth. Mortgage lenders are bound by strict state and federal guidelines spelling out the percentage of current value they can lend. Generally speaking, you can refinance if your home is worth 10 percent more than the loan amount.
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