In many instances, you should refinance to save money on your home mortgage. You’re a good candidate to refinance if you’re planning to stay in your home for a while and are refinancing at a lower interest rate, switching off an adjustable-rate mortgage, or looking to eliminate private mortgage insurance.
The top reasons to refinance are:
- Get a lower interest rate: Lowering your mortgage rate can reduce your monthly payment if the repayment term (duration) remains the same. However, keep in mind that a refinance can carry fees ranging from 2% to 5% of the loan balance due.
Mortgage refinancing for a lower rate can make a lot of sense, especially if your credit score has improved. In that instance, you might qualify for a significantly lower mortgage rate today. Check your credit score and history before you go any further.
Nerd Tip: Rather than simply focusing on reducing your monthly payment, it’s wiser to refinance when you can save money with a lower interest rate, without extending the loan term.
- Switch from an adjustable-rate mortgage to a fixed rate: An adjustable-rate mortgage typically comes with an initial period of a steady interest rate then resets to a floating rate for the rest of the loan. It makes sense to use an ARM if you know you’ll live in a home for only a few years; you could save a lot of money with a lower interest rate in the interim.
Converting to a fixed mortgage from an ARM is especially useful if you plan to stay in your home long-term. For example, if you have a 5/1 ARM, you could complete a refinance by the end of the fifth year and lock in a steady rate with a 30-year fixed-rate mortgage.
- Eliminate private mortgage insurance: If you buy a home with less than 20% down, you typically are required to pay private mortgage insurance, or PMI, which protects the lender in case you default on the loan.
Annual PMI premiums can cost between 0.5% and 1.5% of the mortgage. Sometimes, homeowners are able to cancel mortgage insurance once the balance on the mortgage falls below 80% of the value of the home. However, loans insured by the Federal Housing Administration require mortgage insurance for the entire life of the loan.