With interest rates trending downward over the last several months, refinancing is all the rage. For many homeowners, refinancing an existing mortgage to a home loan with an interest rate that’s at least a full point lower than their current rate, can hack hundreds of dollars off their monthly payment. This can easily add up to tens of thousands of dollars in saved interest paid over the life of the loan.
However, refinancing is not always a good idea. Here are five bad reasons to refinance a home loan.
1. Refinancing to extend the term of the loan
Refinancing to a mortgage with a lower interest rate can save you money each month, but be sure to look at the overall cost of the loan. Homeowners who are more than halfway through their 30-year mortgage loan will likely not benefit from a refinance. Stretching out the remaining payments over a new 30-year loan will mean paying more in overall interest. Also, by paying a monthly mortgage for more years than originally planned, homeowners will be tying up their funds instead of having more cash available for other purposes.
2. To save money for a new home
A refinance will cost money, generally 2-4% of the entire loan. It can take several years just to break even on a refinance. If the borrower is planning to move before then, the refinance will not save them any money.
3. To splurge on an expensive purchase
A cash-out refinance replaces an existing mortgage with a new loan that is more than what is owed on the house. The difference goes to the homeowner. Some homeowners opt for a cash-out refinance to get their hands on cash for an expensive purchase.
Using a house like an ATM is not a recommended practice for several reasons.
First, the loan isn’t cheap. Closing costs can be thousands of dollars, and if the new loan is more than 80% of the home’s value, the homeowner will also need to pay private mortgage insurance (PMI) until they have 20% equity in the home.
Second, using a home’s equity for an expensive purchase means the borrower will see little or no return on their money. Financial experts, like certified mortgage planning specialist Elizabeth Rose, caution against using home equity for anything that will not improve the owner’s finances.
“There has to be some sort of net tangible benefit to the homeowner to refinance,” Rose says. “I don’t recommend cash-out refinancing for anything that won’t add security to or improve your financial picture.”
4. To take cash out for investing
Refinancing a mortgage with plans to use the extra cash each month for investing is, generally, not a responsible choice. Cash is easily spent and it takes tremendous discipline to actually invest the money that is saved from a refinance. Also, paying off a mortgage toward a house can actually be a better long-term investment than pouring money into a risky stock.
5. To take advantage of no-cost refinancing
There is no such thing as no-cost refinances. A lender might offer to refinance a mortgage with no closing costs attached, but the lender will add the fees to the loan in the form of higher interest payments. Alternatively, the lender can roll the closing costs into the mortgage. This means the borrower will be paying interest on these payments throughout the life of the loan.
Refinancing when rates are low can help some homeowners save hundreds of dollars each month. But be sure to look at the full picture before going ahead with a refinance.
If you’re ready to refinance your home loan or if you have questions, contact us today to get started.
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