As the last few months have seen interest rates drop, you may be wondering if now is a good time to consider refinancing your mortgage. If the prevailing rates are at least 0.75% lower than your current rate, it's something that's certainly worth looking into.
But as you do your research, you'll need to factor in the costs and affordability of refinancing and what the break-even point is — because sometimes, getting that lower rate can actually be more expensive than sticking with what you have.
Back in October of 2019, the Federal Reserve cut interest rates for the third time that year. My husband and I were only 15 months into our 30-year mortgage, which had a 4.75% interest rate. We were curious if the rate cut would benefit us, so we contacted a couple of lenders. We qualified for a 3.65% interest rate on a 30-year mortgage. The switch would save us about $2,000 a year on interest, so we decided to refinance our mortgage at that time.
We thought that would be the end of it. But when the pandemic hit the United States, rates dropped even further, so in June, we decided to look into refinancing again. I was surprised at what I found.
I started by contacting a major online lender advertising low rates and filled out an application. They came back with a 2.8% rate on a 20-year mortgage. This would increase our monthly payments by about $125 but decrease the total interest paid by about $14,000.
One downside to the offer is that it required points, which is a fee you pay to secure a lower interest rate. To get a 2.8% interest rate, we would have to pay $4,000. We couldn't find an interest rate lower than our current one without paying that fee.
Video by Stephen Parkhurst
My husband and I didn't want to use our savings to pay for points, so the lender offered to roll that amount into the mortgage, along with the other closing costs. The points and closing costs would increase the total mortgage balance by about $7,500.
After our financial planner ran the numbers, he told us that it would take eight years to break even on just the points and closing costs. Since my husband and I only plan on staying in this house for another 10 years or so, it didn't make sense to go through the hassle of refinancing. I was disappointed, but we did still have a low interest rate.
When you receive a refinancing offer, it's tempting to zero in on the interest rate and monthly payment. But it pays to look closer.
Some mortgage companies will make it difficult to see if there are points included. When I initially spoke to the loan officer in June, she didn't mention points at all. It was only when she sent over the loan documents that I saw how much we would have to pay.
I contacted another online lender with low rates, but that lender also required points. Even though they were able to knock $500 off the closing costs, the trade-offs still weren't worth it to us.
Video by David Fang
Finally, I reached out to my current mortgage lender to see if they would be willing to refinance our mortgage. Sometimes your current lender will put forward a competitive refinance offer just to keep you as a customer.
Using your current lender to refinance can be especially desirable for borrowers because the lender will often waive the appraisal, origination, and title insurance fees. Going this route could save you thousands. But when I contacted our current lender, they weren't able to provide a lower rate.
If you're interested in refinancing, I recommend reaching out to a variety of lenders, including online lenders, local banks, and credit unions, to compare offers. But make sure to contact them within the same two-week period so it only counts as one hard inquiry on your credit report. If you contact lenders several months or even several weeks apart, it can count as multiple hard inquiries and your credit score can suffer.
Ultimately, my best advice is to make sure you look at all aspects of the offer and keep the big picture in mind. Even though it may seem like a good deal on the surface, do your due diligence and have a clear understanding about whether it's the right decision for you and your financial future.
And if you are developing a plan to pay off a mortgage, Grow's mortgage calculator can help:
Zina Kumok is a freelance writer and editor. She has written for outlets such as Investopedia, Credit Karma, and LearnVest. Her expertise has been featured in Glamour, BBC, and NerdWallet. She paid off $28,000 in student loans in three years and works as a money coach at ConsciousCoins.com.
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