Mortgage

Mortgage Refinance Calculator – Why you should ‘almost always’ Refinance?

It’s the age-old debate. Should I refinance my mortgage? Some people say ‘yes, why would you let low interest rates slip by?’ Yet others say, ‘No, you’ll only add years to your mortgage which you’ve worked so hard to pay down.’ Both answers make sense. Saving money on interest should be any homeowner’s goal. But adding years to your term doesn’t make sense.

So, when should you refinance your home? How do you know which way is right? It’s like the angel on one shoulder and the devil on the other. Which one do you listen to? Here’s a hint! Make the decision that’s right for you, not anyone else. We’re going to show you the most important information you should consider when making your refinancing decision. Please note, this advice applies to fixed-rate/term refinances only – not a cash-out refinance.

The main goal – lowering the interest rate and payments?

Most people not in the mortgage industry, just look at the reduced interest rates and monthly payments.

As you can see below, the interest rates have never been any lower:

30-year fixed rate mortgage average in the United StatesImage – 30-year fixed-rate mortgage average in the United States

But does this mean you should undoubtedly refinance?

Let’s say you have a 5.0% interest rate or higher now and rates fell to 3%. Anyone in their right mind would suggest that you refinance to save that 2% in interest. When you’re talking a loan of hundreds of thousands of dollars, 2% in interest adds up quickly.

They aren’t wrong. Lower interest rates save you money on your monthly payment AND over the loan’s term. If we looked at just interest rates, it would make perfect sense to refinance. But in the ‘real world,’ there is more to the equation than interest rates alone. So, what else do you need to make it ‘okay to refinance’? Consider the term and closing costs.

The Loan’s Term

The term plays an important role when answering the question ‘should I refinance?’ If you started with a 30-year term and it’s been a few years, you’ve already paid into the loan. If you restart the term, taking out another 30-year loan, you are adding years to your loan.

For example, let us assume that you had a 30-year term that has been paid on for 5 years. If you then refinanced into another 30-year term, you added those five years back. That may not always be the smartest choice. In fact, run the numbers on any refinance calculator. You will see that this doesn’t make much sense if you pay attention not only to the monthly payment but on the total interest you’ll pay over the loan’s term. This is where the actual problem is.

Take a 30-year term, $300,000 loan that started on February 1, 2015 for example.  With an initial interest rate of 3.5%, if you make just the minimum payments, you’d pay $1,347 per month and pay $393,362 over the life of the loan. Now let’s assume that you refinance the same loan that has been paid down to $264,547 after 5 years. Let us also assume you secure an interest rate of 3.0% for 30 years. If you make the minimum payments, you’d pay $1,115 a month and pay $401,522 over the term. Which is paying $8,160 more in interest! Obviously, this doesn’t make sense.

The Closing Costs

In addition to this, you must consider the closing costs as most loans have them.

You paid closing costs when you bought the home. You’ll pay them again every time you refinance. It’s how most lenders stay in business. You may be able to shop around and find lower closing costs. But chances are, you’ll always pay something. Most lenders charge anywhere between 1% – 3% of the loan amount as closing costs. The closing costs play a role in your savings. In other words, they take away from your total savings because it costs money to get those savings.

Ideally, you should know your break-even point – the time it takes to ‘pay off’ the closing costs with the monthly savings. For example, if it cost you $2,500 in closing costs and you saved $100 a month in reduced monthly payments, your break-even point would be 25 months ($2,500/$100 = 25).

The Real Savings

If we look at the big picture here, it looks like you should only refinance if you save money on monthly payments AND pay less interest over the loan’s term. All while also considering the closing costs. If the break-even point is too far off – say 5+ years, it may not make sense to refinance. You won’t realize the savings for too many years. And by that point, you may either move, sell the house or want to refinance again. This negates the benefits of refinancing in the first place.

What if that’s not all, though? There’s another way to look at it – the method we prefer. In fact, we’ve created a unique refinance calculator to help you see the process firsthand.

Using our Mortgage Refinance Calculator to Decide

To use our mortgage refinance calculator, you’ll need a few figures:

  • Your original loan amount when you bought the home
  • The original loan start date (the date of your first payment)
  • The original loan term
  • The original interest rate
  • Your current outstanding principal

You can find most of this information on your mortgage statement. If it doesn’t show your original loan amount or first payment date, you can grab that information from your loan closing paperwork.

Next, you’ll need information about the new loan:

  • New loan amount, which should equal the outstanding amount of your current loan
  • The new loan start date (usually the 1st of the following month)
  • The new loan term
  • The new interest rate
  • Total closing costs

Here is a look at the calculator using the figures mentioned in the example discussed above:

Refinance calculator with example
Image – Refinance Calculator with an example

The results will look like this:

Refinance calculator results for example
Image – Results table for the example

Check under the ‘New Loan Regular Payment’ column. It would cost you $8,160 in added interest to refinance into another 30-year fixed-rate loan! That doesn’t make much sense, does it? We don’t even have to explain that because why would anyone refinance to pay more money in interest, right?

The ‘Refinance’ Pill

Here is our pill for you and choosing to take this pill will provide you with better savings than what might think. What if you refinanced, but paid the same mortgage payment in the form of an accelerated payment?

In other words, continue to pay the old mortgage payment of $1,347 per month even though you refinanced and secured a loan with a new monthly payment of $1,115.

Technically, you should pay ~$232 a month less by refinancing. But like we said, looking at the big picture, this doesn’t make sense. It will cost you over $8,000 extra in interest if you make the reduced minimum payments for 30 years. Plus, it would take you over 10 months to break even on the $2,500 in closing costs. And you’d add five years to your loan term on top of this.

If you continue paying your old mortgage payment though, it’s a whole new ball game. Paying $1,347 a month means you’ll pay off your loan 21 months early – paying it off April 1, 2043, rather than January 1, 2045. That’s not all, though. You’ll also save $29,075 in interest, making the total payments $364,287 versus $393,362 that you would have paid if you didn’t refinance at all. Even if you consider the $2,500 closing costs, the savings are almost $27,000!

The Bigger Picture

The mortgage data firm, Black Knight, reports that over 19.3 million homeowners may benefit from refinancing. As of July 2020, over 7 million homeowners carried mortgage debt with an interest rate of 5 percent or higher on a 30-year fixed loan.

Using our refinance calculator, you can play with the numbers to see when and how you should plan and proceed with refinancing YOUR home.

Though a small drop in interest rate may not seem to make sense, it totally does if you’ll keep making your current monthly payments. Most people today focus on interest rates. It’s all they talk about, when in fact, the real savings occur when you refinance and yet make the same payments.

Before you consider refinancing, ask yourself if you are you dedicated to paying the higher amount even though the required minimum payment is lower. If you follow through, consistently making the higher payments, you can knock many years off your loan’s term and save thousands of dollars in interest. But don’t forget, it doesn’t make sense to do this if the closing costs are so high that you won’t break-even on the refinance before you move.

Other Ways to Save Money

Now that you’ve decided or at least decided to use our refinance calculator to help you decide, we’ll throw another piece of information at you.

What if you could save on closing costs? If you could knock closing costs down (comparison shopping) or negotiate with lenders to get a no-closing-cost loan, you may even wind up in a better position, aka saving more money!

It’s Almost Always Right to Refinance

As you can see, it is ALMOST ALWAYS a right move to refinance ONLY IF you continue to pay the old monthly payment instead of the refinanced new lower monthly payment. 

If refinancing and continuing the pay the old monthly payment is so beneficial, why ‘almost always’ refinance and not just ‘always’? For one – Interest rates aren’t always lower than your current rate. And closing costs could play a role in your decision. If they aren’t affordable, refinancing may not make sense.

In all other areas, though, our loan refinance calculator can help you decide if refinancing is right for you. Looking at refinancing with this unique perspective and choosing to take our special pill can save you thousands of dollars over the life of your loan.

Isn’t it time to find ways to save as much money as you can? We aren’t getting any younger. Now is the perfect time to sock those savings away for retirement – setting yourself up for financial freedom in the future AND a paid-off home? It’s the recipe for a perfect financial future.

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