What’s the best time to refinance? Use this simple rule of thumb

As mortgage professionals, we are often asked about refinancing, especially at times like these when interest rates are historically low.

In addition, every time you turn on your television or go online, you are bombarded with advertising encouraging you to refinance now! But when should you consider refinancing?

In a normal interest rate environment and in Florida, the “rule of thumb” is that if you can reduce your rate by 2%, and plan to stay in your home for more than 2 years, you will begin to realize some actual savings. The math is simple:

On a 30-year fixed rate loan of $200,000 at a 6% interest rate,your payment (principal + interest) would be $1,199.10.

If you secure a new rate of 4% on the loan, your payment would go down to $954.83. That is a payment reduction of $244.27 a month.

Over 24 months, that’s a net savings of $5,862.48!

Sadly, it’s never that easy. There are always those pesky closing costs! In Florida, average closing costs on that $200,000 refinance would be in the $5,000-$5,500 range. Therefore, it takes about 2 years just to recover the closing costs you paid and actually start saving money!

Of course, I bet I know what some of you are thinking. What about those “no closing cost” ads? To be perfectly honest, one way or another, you are still paying the lion’s share of those costs.

Lenders of all kinds like credit unions and banks spend millions every year enticing people to refinance. Why? Because it’s extremely profitable! The profit comes from various fees collected at closing.

The State of Florida also collects taxes on the transaction. Plus, somebody must pay for the endorsements, title work, attorney settlement fees, appraisals, title insurance, bank fees, tax service letter and related costs. That “somebody” is you.

Here is how it works: In most cases, you’re not getting the lowest available interest rate. Lenders may offer a slightly better rate than you currently have, but they can often do much better. They typically lock the applicant into a slightly higher rate to generate extra “back-end profit” to offset closing costs. On the $200,000 loan balance, the difference in .25% can easily generate $1,000-$1,200 for the lender, which they apply to your closing costs. This is known as “premium pricing.”

In the fine print of most “no closing cost” loans you will find “no closing costs out of pocket.” That’s completely different. In these cases, closing costs are simply added to your payoff at closing. If the new payment is $150 per month less than your current payment, but your new loan balance increased from $200,000 to $206,000, how much are you really saving?

I also suggest making sure there are no pre-payment penalties. Can you imagine having to relocate, sell your home in a year or two, and pay off a higher balance than you started with (or pay a pre-payment penalty)? I have experienced this scenario on countless occasions.

Lastly, the companies that constantly push refinancing are shoestring operations with poor service. Their staff is not commissioned or incentivized, and processors are often overwhelmed with work, slow and unresponsive. They count on volume and not reputation to generate profits. With our hurried lives and frantic schedules, it’s common for homeowners to leave the closing table without realizing the $200,000 loan they just refinanced is now $206,000. Suddenly, you have a slightly lower payment but are further in debt.

Currently, interest rates are at a historic low, so some borrowers are looking to refinance for as little as a 1% savings. But the determining factor will always be how long you plan to be in that property.

With all that said, refinancing is never a decision to take lightly. After all, it is your home and you are trying to build equity. If you really want to reduce your interest, make extra payments any time or put yourself on a 15-year payment schedule. You won’t pay any closing costs to do that! I often meet with clients who intend to refinance but end up leaving my office with a new payment plan (without spending a dime). Your lender should be a consultant, not a salesman.

In the end, lenders cannot lend money for free. A few minutes with a calculator and the required disclosures form and a lender will give you the answers you need.

Atlantic Trust Mortgage’s Mark Sherman has been a licensed mortgage broker in Florida since 1989. Davidson Realty is proud to work with Atlantic Trust Mortgage to make the lending process as smooth as possible for customers.

Looking for more information? Contact Mark today at 904-509-8272 or mark@atmfl.com.