“Yes! Of course! Immediately!”, said the mortgage company…
While as a mortgage company we certainly have skin in the game when it comes to refinancing, transparency is also the name of our game, and we want you to know the truth to the question “is it smart to refinance my home?”. And that truth is, it depends. First, what is a refinance? Refinancing is the restructuring of your mortgage loan, paying off the old loan and replacing it with a new loan under different terms. You can refinance simply to reduce your interest rates, or you can refinance to access the equity you’ve built up in your home. Many people do this to receive cash from their equity to pay off debts, perform home fixes or renovations, or to use the cash for some other purpose.
But is it smart to refinance your home? It’s important to keep in mind that while owning a home is one of the best ways to accrue wealth in many areas of the country, it’s reckless when it comes to your finances to use your home as a piggy bank. Thinking of refinancing to pay for a quick vacation on a whim? To purchase that new toy that you’ll tire of in a few months? Because you’ve got a super huge crush on your loan officer and want an excuse to keep in contact with them over 2-3 weeks? These are all pretty terrible reasons to refinance (though your loan officer is very flattered by reason #3), and in these cases, we’d advise that no, it is not smart to refinance your home.
There are, however, many reasons where refinancing is a good idea. Restructuring a mortgage to a lower rate can add a ton of cash flow and make things less tight around the house – so as long as the monthly savings offsets any closing costs, a rate reduction refinance (known in the industry as a rate/term refi) is usually a good idea – but keep in mind, the savings has to make sense when you factor in any costs. Speaking of rate/term refinancing, changing a loan term is also a popular and oftentimes good reason to refinance. If a current 15 year loan isn’t working because the payment is uncomfortably high, switching to a 30 year term could help. A 30 year term with no prepayment penalties also gives borrowers more flexibility month over month (for example, if you WANT to pay your loan off in 15 years, you can by making larger monthly payments – but if you want to put that money elsewhere, the lower 30 year payment gives you that option). Has your income increased to a point where you can afford spending extra each month? Maybe moving to a lower rate 15 year term would save you a TON of interest over the long haul, something many home owners take advantage of when planning toward a mortgage-free retirement.
Where things get a little more complex is when cash out, or removing equity from your home, is involved. Adding to your loan balance at the expense of equity in your home can be extremely beneficial to a home owner, or financially disastrous, so the big thing to consider is “is the money worth it”. For example, taking $30,000 cash out of your home equity to do upgrades or renovations could both add to your home value and make your life more comfortable – so it might be worth the additional monthly cost. Taking out equity to pay off other debts is also a common reason to refinance, and also can be great for some people and a terrible idea for others. For example, if you pay off a bunch of credit cards, take out equity to pay them off, then run them up again, you’re setting yourself up for financial ruin and a deep hole to climb out of. But if you pay off higher rate debt that’s difficult to pay off with your monthly budget, and then invest the monthly savings back into your mortgage or other smarter financial plans, it can be a great decision. For some folks, just the increase in monthly cash flow from getting rid of shorter-term, higher rate debt can be a life changing move. But it’s important to remember it DOES come at the expense of your home equity. That money might seem free, but it’s not!
Bottom line, the answer to the question “is it smart to refinance your home” is different for everyone. A good loan officer will guide you through your options and discuss the benefits and pitfalls of what different loan programs would look like. Refinancing your home is a pretty easy process, and can offer tremendous benefits, but it’s best to move forward with discretion and a complete understanding of what it means for your financial plans.