In this age of low interest rates, mortgage refinancing has become an attractive option for more and more borrowers. A refinance essentially replaces your old mortgage loan with a new one. There are several different reasons to refinance your loan ― just make sure to do the proper research before committing to anything.
Consolidate Your Debts
One of the most popular motives for mortgage refinancing is debt consolidation, where you take out a new loan to pay off other debts. Unlike credit card interest, mortgage interest is tax-deductible on your federal return. The interest rate on a mortgage loan will be much lower as well (around 5% or 6% interest on a fixed mortgage, versus 15% or 20% interest on a credit card). With mortgage refinancing, you can pay off those consumer debts using the home equity you have and continue to build home equity with your new mortgage. Just remember that missing mortgage payments is not the same as missing credit card payments, and defaulting on your mortgage could end in foreclosure.
Pay for Home Improvements
Mortgage refinancing has also been used to pay for home improvements. Aside from the personal benefits of upgrading your space, home improvements can increase your property value ― thus increasing your home equity. It is also true that having substantial home equity will give you more options for mortgage refinancing, since equity represents your ownership in the home. Additionally, once your home equity has reached 20% (i.e. you’ve repaid 20% of the principal loan balance) you should be able to cancel your mortgage insurance.
Switch to a Fixed Rate
A lot of homeowners start to consider mortgage refinancing when interest rates are low. You may be able to switch from an adjustable-rate mortgage to a fixed mortgage, depending on your strength as a borrower. (Remember that with mortgage refinancing you’re getting a new loan, so you’ll have to go through the mortgage application process again.) By locking-in a fixed mortgage rate, you will have predictable monthly payments and you will no longer be at the mercy of market fluctuations.
Reduce Your Loan’s Term Length
Mortgage refinancing is recommended for borrowers who have built up a significant amount of home equity. If you have paid down a good portion of your principal, you may want to consider reducing your loan term (from 30 years to 15 years, for example). Even if your mortgage rate increases slightly, a shorter loan term will likely reduce the amount of interest you pay overall.
While these are the most common reasons for mortgage refinancing, everyone’s situation is different and you must do what is best for you. In the end, mortgage refinancing is only really worthwhile if it saves you money. Be sure to run the numbers and find your “break even” point (the point at which you actually to save money) before making a final decision.