When to Refinance Your Mortgage

Taking out refinance mortgage can be a viable option depending on what you want to achieve and the prevailing market conditions. When you refinance your mortgage, you are simply paying off an existing loan and replacing it with another one.

There are a number of reasons why you may wish for refinancing:

 To benefit from a lower interest rate
 To consolidate debt
 To tap into your home's equity to finance a large purchase
 To convert a fixed-rate mortgage into an adjustable-rate mortgage (ARM), or vice versa
 To shorten the term of your mortgage

Some of the above motivations have their pros and cons.

Mortgage refinancing can cost between 3% and 6% of the loan's principal. Therefore, just like is the case with taking out the original mortgage, you will need to consider application fees, title search and appraisal. You should carefully look into your reasons for refinancing to determine whether you will be truly benefiting.

Benefit from a Lower Interest Rate
You can refinance to get a lower interest rate on your existing loan. Generally, it is beneficial to take out a refinance mortgage if you can lower your interest rate by at least 1%.

With a lower interest rate, you will not only be saving money, but also build equity on your home faster. Moreover, you can end up paying a lower monthly payment. The new savings can be put in other ventures such as paying off existing debts, putting more in your retirement savings plan or purchasing an investment.

Reduce the Term of the Loan
When interest rates go down, you can refinance your loan to lower your term without much change in your monthly payment. Reducing the term of your loan can help you build your credit score faster and lower the burden of a longer payment period.

Convert Your Loan Between Fixed-Rate and Adjustable-Rate
Initially, ARMs start out by offering lower rates than fixed-rate mortgages. However, the periodic adjustments in the rates means homeowners end up paying higher than they would with a fixed rate mortgage. When this happens, you have an option of converting the ARM to a fixed-rate mortgage to lower your payments. Apart from this, switching an ARM to a fixed-rate mortgage will help you lock on the lower interest rate and hence eliminate the uncertainty of future interest rates hikes.

On the flip side, converting your mortgage from a fixed-rate to an ARM can be a sound financial strategy, especially if interest rates are falling. If the rates continue falling, the periodic adjustments on an ARM lead to smaller monthly payments and decreasing rates. In such a case, you will not need to take a refinance mortgage every time the rate dips.

If you do not plan to stay in your home for more than a few years, converting to an ARM can be a good idea. If interest rates are falling, your monthly payment as well as interest rates will also reduce. However, since you will not be staying in the home for many years, you will not have to worry about rising rates in future.

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