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As interest rates fall, how to tell if it makes sense to refinance your loans

Twenty/20

On Wednesday, the Federal Reserve cut interest rates for the first time since 2008. If you have debt — including student loans, auto loans, and mortgages — a rate change may open up the opportunity to save money by refinancing.

Here's how to tell when or if it makes sense to refinance as interest rates fall.

How a rate cut affects what you owe

The U.S. central bank cut its benchmark interest rate from the current range of 2.25%-2.5%, to a range of 2%-2.25%, because there are some signs that the economy may be slowing down.

Does it mean you should refinance your loans? Not necessarily. A small rate cut of 25 basis points by itself isn't likely to generate big savings for you as a borrower — especially since the Fed's rate changes have an indirect influence on many kinds of loans.

"The ability to refinance and save $125 or $150 per month? That's really significant," says Greg McBride, chief financial analyst at Bankrate. "But a quarter-point move on things like your credit card, your home-equity line of credit, or even a savings account is really a drop in the bucket" — and so may not be worth it.

Look at your big picture to figure out if the Fed's first rate cut in more than a decade is enough to warrant running the numbers.

For example, as of June, 8.2 million homeowners would benefit from refinancing, because they could already reduce their current rate by at least 75 basis points, according to data from mortgage analytics firm Black Knight. And if your credit score has improved since you took out that auto loan or private student loan, you may now qualify for a lender's best rate — which would be even a bit better after a rate cut.

Here's how to think about refinancing when it comes to three common kinds of consumer debt:

Mortgages

"The Fed cutting rates should capture the attention of homeowners who wouldn't normally follow interest rates very closely," says Keith Gumbinger, vice president at HSH.com. The benchmark rate has some influence on mortgage rates.

For its reports, Black Knight typically estimates borrowers would benefit from refinancing if they can get a new interest rate that's at least 75 basis points (0.75%) lower.

Gumbinger warns that borrowers should also factor in closing costs as part of their assessment. For example, he says, refinancing a $200,000, 30-year mortgage with a 4% rate to a 3.75% rate would lower your payment by just $28.60 per month, and entail closing costs of around $3,000. "With such a small difference, it will take almost nine years just to cover the cost of refinancing before any actual savings kick in," he says.

The Fed cutting rates should capture the attention of homeowners who wouldn't normally follow interest rates very closely.
Keith Gumbinger
vice president, HSH.com

Auto loans

Refinancing auto loans isn't something a lot of people do, says Brian Moody, executive editor at Autotrader: "It's not as typical as it is with home loans." In one 2017 survey from used-car marketplace Instamotor, just 9.2% of drivers had refinanced.

Changes to the benchmark interest rate can have some influence on auto refinance rates offered through banks, credit unions, and other lenders. But it's less direct. This week's Fed moves "do not necessarily mean consumers will see any lower rates," Jonathan Smoke, chief economist at Cox Automotive, wrote in a blog post.

Still, it's not a bad idea to see if you can get a lower rate — especially if you've recently improved your credit score, which tends to have a much more significant impact on the kind of auto loan rate you qualify for.

Student loans

The Fed's actions on interest rates can influence federal student loan rates, as well as private loans that may be pegged to different benchmarks.

A quarter-point rate drop won't result in savings for most borrowers, says Betsy Mayotte, president and founder of The Institute of Student Loan Advisors. But if there's a half-point difference or more between your existing rates, it could be worth looking at refinancing.

That's especially true on private student loans, she says. Those tend to have higher rates overall and can also have variable rates, which change over time. Interest rates on federal student loans are fixed, and in recent years have ranged from 3.4% to 8.5%.

How much you could save from refinancing depends on your new rate and the terms of that loan. But be cautious about refinancing federal loans, even if you might see savings. You could lose protections such as forbearance and deferment, and the possibility of using income-driven repayment plans or public loan forgiveness plans.

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