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The New Math Of Life Insurance
The New Math Of Retirement Planning

The New Math Of Mortgage Refinancing

This is part two of a three part series addressing how current economic conditions have made many financial Rules Of Thumb no longer valid.  You may have heard it said that if you can save 2 percent or more off your current mortgage rate you should refinance.  Based on today’s low rates, this Rule Of Thumb is no longer that helpful.  In fact, many people may find it profitable to refinance if they lower their current rate by just 1 percent.

Adjustable Rate Mortgages

If you plan on being in your home for only 5 to 7 years (which is the average for most people), you may want to consider an adjustable rate mortgage.  The 5/1 ARM currently has a rate of only 3.42% which is locked for five years. 

Closing Costs Are The Primary Considerations When Refinancing

The reason we don’t refinance on the basis of simply obtaining a lower interest rate is that closing costs have to be weighed against any monthly savings.  I have addressed this concept in previous articles, but I thought it would be worthwhile to do so again.  With mortgage rates at historic lows, even those that have refinanced within the last two to three years may be candidates to refinance once again.

There are three pieces of data that you should have to be able to make a mortgage refinance decision:

1.  The new proposed mortgage payment

2.  Estimated closing costs

3.  An idea of how long you will likely stay in your current home

Armed with this information, you can then begin to do an assessment of your current situation.  Let’s consider the following example:

Current payment $1,264 (6.5% interest rate)

New payment $1,073 (5% new rate)

Monthly savings $191

Closing costs $4,000 divided by $191 (monthly savings amount) = 20 months to break even on the cost of refinancing

Based on the above scenario, it would make sense to refinance if you plan to stay in the home for longer than 20 months.

Despite the fact that we are only lowering our rate by 1.5%, it still makes a lot of sense in the above example to go forward with a refinance.  This shatters the long standing 2% Rule Of Thumb.  In fact, even a savings of just 1% could work based on closing costs and the length of time you plan to stay in your current home.

Click Here To Use A Free Mortgage Refinance Calculator From Lending Tree

How To Get An Estimate Of Closing Costs

Federal law requires your lender to provide you with a Good Faith Estimate of your closing costs.  While this figure is not exact to the penny it should be very close to what you will see on your final loan documents. 

While it is more difficult in today’s economic climate to refinance, it may be well worth it if you have decent credit, equity in your home, and a solid income history.  I personally don’t expect to see rates this low again in my lifetime. 

Helping you make the most of God’s money!

James L. Paris
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