Saving Money by Refinancing Your Mortgage

|

pfadvice talks about debunking a money myth and perpetuates one of his own. He took issue with someone refinancing to lower their monthly payment, insisting instead that the term of the loan was all important.



His point is understandable in that because folks tend to buy more house than they can really afford, they also tend to obsess about that monthly payment. The solution to this is simple to describe but it takes someone with more savvy and willpower than most to bring it off: don't buy more house than you can afford.



Actually, there is nothing that is all important, but if I had to pick one thing as most important, it would be the tradeoff between interest rate and cost and type of loan. This is always a tradeoff. They're not going to give you a thirty year fixed rate loan a full percent below par for the same price as loan that's adjustable on monthly basis right from the get-go.



If you have a long history of keeping every mortgage loan you take out five years, ten years, or longer, then perhaps it might make sense for you to take out a thirty year fixed rate loan and pay some points. To illustrate, I'm going to pull a table out of an old article of mine because I'm too lazy to do a new one.







rate

5.625

5.750

5.875

6.000

6.125

6.250

6.375

6.500

6.625

6.750

6.875

7.000
discount/rebate

1.750

1.250

0.625

0.250

-0.250

-0.750

-1.250

-1.500

-2.000

-2.250

-2.500

-3.250

cost

$4725.00

$3375.00

$1687.50

$675.00

-$675.00

-$2025.00

-$3375.00

-$4050.00

-$5400.00

-$6075.00

-$6750.00

-$8775.00




Now I'm intentionally using an old table, and rates are higher now. I'm assuming no prepayment penalties, and the third column is cost of discount points (if positive) or how much money you would have gotten in rebate (if negative), assuming the $270,000 loan I usually use by default. Add this to normal closing costs of about $3400 to arrive at the cost of your loan, thus:



(I had to break this table into two parts to get it to display correctly)







Rate

5.625

5.75

5.875

6

6.125

6.25

6.375

6.5

6.625

6.75

6.875

7
Points/Rebate

$4,725.00

$3,375.00

$1,687.50

$675.00

($675.00)

($2,025.00)

($3,375.00)

($4,050.00)

($5,400.00)

($6,075.00)

($6,750.00)

($8,775.00)
Total cost

$8,125.00

$6,775.00

$5,087.50

$4,075.00

$2,725.00

$1,375.00

$25.00

($650.00)

($2,000.00)

($2,675.00)

($3,350.00)

($5,375.00)
New Balance

$278,125.00

$276,775.00

$275,087.50

$274,075.00

$272,725.00

$271,375.00

$270,025.00

$270,000.00

$270,000.00

$270,000.00

$270,000.00

$270,000.00
Payment

$1,601.04

$1,615.18

$1,627.25

$1,643.22

$1,657.11

$1,670.90

$1,684.60

$1,706.58

$1,728.84

$1,751.21

$1,773.71

$1,796.32













rate

5.625

5.750

5.875

6.000

6.125

6.250

6.375

6.500

6.625

6.750

6.875

7.000
New Balance

$278,125.00

$276,775.00

$275,087.50

$274,075.00

$272,725.00

$271,375.00

$270,025.00

$270,000.00

$270,000.00

$270,000.00

$270,000.00

$270,000.00
Interest*

$1,303.71

$1,326.21

$1,346.78

$1,370.38

$1,392.03

$1,413.41

$1,434.51

$1,462.50

$1,490.63

$1,518.75

$1,546.88

$1,575.00
$saved/month

$130.80

$108.29

$87.73

$64.13

$42.47

$21.10

$0.00

($27.99)

($56.12)

($84.24)

($112.37)

($140.49)
break even

62.11922112

62.5610196

57.99355825

63.54001705

64.15695892

65.17713862

0

0

0

0

0

0






Now, I've modified the results based upon some real world considerations. Point of fact, it's rare to actually get the rebate (typically, the loan provider will pocket anything above what pays your costs), and so I've zeroed out those costs. You take a higher rate, you're just out the extra monthly interest. The fourth column is your new balance, the fifth is your monthly payment. For the second table, I've duplicated rate and new balance for the first two columns, the third is your first month's interest charge (note that this will decrease in subsequent months), the fourth is how much you save per month by having this rate, and the fifth and final column is how long in months it will take you to recover your closing cost via your interest savings as opposed to the cost of the 6.375% loan, which cost a grand total of $25 (actually, this number will be slightly high, as interest savings will increase slowly, as lower rate loans pay more principle in early years).



However, let's look at it as if your current interest rate is 7 percent. Your monthly cost of interest is $1575, there, so let's see how long it takes to actually come out ahead with these various loans.





Rate

5.625

5.75

5.875

6

6.125

6.25

6.375

6.5

6.625

6.75

6.875

7

Loan Cost

$8,125.00

$6,775.00

$5,087.50

$4,075.00

$2,725.00

$1,375.00

$25.00

$0.00

$0.00

$0.00

$0.00

$0.00

New Loan

$278,125.00

$276,775.00

$275,087.50

$274,075.00

$272,725.00

$271,375.00

$270,025.00

$270,000.00

$270,000.00

$270,000.00

$270,000.00

$270,000.00

Saved/month

$271.29

$248.79

$228.22

$204.63

$182.97

$161.59

$140.49

$112.50

$84.38

$56.25

$28.13

$0.00

Breakeven

29.94960403

27.23218959

22.29233587

19.9144777

14.89346561

8.50926672

0.177945838

0

0

0

0

0



In short, since you're recovering costs quickly, it would make sense for folks with a rate of 7 percent to refinance in this situation, no matter how long they have left on their loan. For $25, they can move their interest rate down to 6.375, saving them $140 plus change per month. It's very hard to make an argument that that's not worthwhile. On the other hand, I would have been somewhat leery of choosing the 5.625% loan, as more than fifty percent of everyone has refinanced or sold within two years. On the other hand, I have a solid history of going five years between refinancing, so it makes a certain amount of sense, considered in a vacuum. Considered in light of the real world, rates fluctuate up and down. So I tend to believe that if I don't pay very much for my rate, I'm likely to encounter a situation within a few years where I can move to a lower rate for zero, or almost zero, whereas if I paid the $8125 for the 5.625%, rates would really have to fall a lot before I can improve my situation.



Do not make the mistake of thinking that the remaining term of the loan is more important than it is. You now have (assuming you took the 6.375% loan) $140 more per month in your pocket. It's up to you how you want to spend it. If you want to spend it paying down your loan more quickly, you can do that (providing you don't trigger a prepayment penalty, of course!). Let's say you were two years into your previous loan. Your monthly payment was $1835.00. If you keep making that payment, you'll be done in 288 months; 48 months or 4 full years earlier than you would have been done. So long as you don't trigger the prepayment penalty, you can always pay your loan down faster. Just write the check for the extra dollars and tell the lender that it's extra principal you're paying. I haven't made a minimum payment since the first time I refinanced!



Now some folks focus in on the minimum payment. By doing this, you make the lenders very happy, and likely your credit card companies as well. Not to mention that you are meat on the table for every unethical loan provider out there. It is critical to have a payment that you can afford to make every month, and make on time. But once you have that detail taken care of, look at your interest charges and how long you're likely to keep the loan, not the minimum payment.



Caveat Emptor.

Categories

Delicious Bookmark this on Delicious StumbleUpon Toolbar Stumble It!
 



Buy My Science Fiction Novels!
Dan Melson Amazon Author Page
Dan Melson Author Page Books2Read

Links to free samples here

The Man From Empire
Man From Empire Cover
Man From Empire Books2Read link

A Guardian From Earth
Guardian From Earth Cover
Guardian From Earth Books2Read link

Empire and Earth
Empire and Earth Cover
Empire and Earth Books2Read link

Working The Trenches
Working The Trenches Cover
Working the Trenches Books2Read link

Rediscovery 4 novel set
Rediscovery set cover
Rediscovery 4 novel set Books2Read link

Preparing The Ground
Preparing The Ground Cover
Preparing the Ground Books2Read link

Building the People
Building the People Cover
Building the People Books2Read link

Setting The Board

Setting The Board Cover
Setting The Board Books2Read link



Moving The Pieces

Moving The Pieces Cover
Moving The Pieces Books2Read link


The Invention of Motherhood
Invention of Motherhood Cover
Invention of Motherhood Books2Read link

The Price of Power
Price of Power Cover
Price of Power Books2Read link

The End Of Childhood
End Of Childhood cover
The End of Childhood Books2Read link

The Fountains of Aescalon
Fountains of Aescalon Cover
The Fountains of Aescalon Books2Read link

The Monad Trap
Monad Trap Cover
The Monad Trap Books2Read link

The Gates To Faerie
Gates To Faerie cover
The Gates To Faerie Books2Read link

Gifts Of The Mother
Gifts Of The Mother cover
Gifts Of The Mother Books2Read link

The Book on Mortgages Everyone Should Have!
What Consumers Need To Know About Mortgages
What Consumers Need To Know About Mortgages Cover
What Consumers Need to Know About Mortgages Books2Read

The Book on Buying Real Estate Everyone Should Have
What Consumers Need To Know About Buying Real Estate
What Consumers Need To Know About Buying Real Estate Cover
What Consumers Need to Know About Buying Real Estate Books2Read

Dan Melson's San Diego Real Estate and Mortgage Website

↑ Grab this Headline Animator

About this Entry

This page contains a single entry by Dan Melson published on December 7, 2007 7:00 AM.

Real Loans For Real People December 6, 2007 was the previous entry in this blog.

Appraisal Fraud is the next entry in this blog.

Find recent content on the main index or look in the archives to find all content.

Powered by Movable Type 4.21-en
******

Enter your email address:

Delivered by FeedBurner


Copyright 2005-2024 Dan Melson. All Rights Reserved