How to Know When to Refinance
7 minute read
December 4, 2022


The option to refinance your mortgage is one that you might consider at some point during your home ownership journey. 

Mortgage rates are always changing, and sometimes it could make sense to refinance to get a lower interest rate and save money on your monthly mortgage payments. 

But how do you know when the time is right? 

Read on to learn more about the reasons people refinance and whether it may be a fitting option for you.

What Is refinancing?

When you refinance your mortgage, you take out a new mortgage loan to replace your existing one. 

The loan pays off your old mortgage and replaces it with a new amount. You’ll then begin making payments on the new loan instead. 

There are many reasons people choose to refinance their home loans. Maybe they want to lower their interest rate, change the loan term, or get rid of their private mortgage insurance (PMI). 

Whatever the reason, refinancing comes with its own set of pros and cons that you should consider before making a decision.

The benefits of refinancing your mortgage

  • A lower interest rate could mean big savings on your monthly mortgage payments.
  • Refinance could mean a shorter loan term and the ability to pay off your mortgage sooner. 
  • You may be able to get rid of PMI if you refinance into a loan with a higher principal balance.

The drawbacks of refinancing your mortgage

  • Refinancing comes with its own set of costs, including appraisal fees, origination fees, and title insurance. 
  • You could end up extending the life of your loan if you refinance into a new 30-year mortgage, for example.
  • If you’re planning to sell your home soon, refinancing might not make sense since you won’t recoup the costs of the refinance before selling.

When to refinance your mortgage

Generally speaking, it makes the most sense to refinance when mortgage rates are low. That’s because a lower interest rate could lead to significant monthly savings. 

But let’s look deeper into the common reasons people choose to refinance.

To lower monthly mortgage payments

If you can find a lower interest rate than the one you have now, refinancing could lead to monthly savings. 

For example, let’s say you have a $200,000 loan with an interest rate of 4.5%. Over 30 years, your monthly payment would be about $1000. 

But if you were to refinance into a new loan with a 4% interest rate, your monthly payment would drop to about $954. That’s a difference of $46 per month or $552 over the course of a year. 

While that may not seem like a huge amount, it can add up over time—especially if you plan on staying in your home for several years. 

Shorten your loan term

Another reason people refinance is to change the loan term. 

Maybe you originally took out a 30-year mortgage but now you want to pay it off sooner. Or maybe you took out a 15-year mortgage but realized that the higher monthly payments are too much to handle.  

In either case, refinancing into a new loan with a different term can help. Just remember that if you’re extending the life of your loan, you may end up paying more in interest over time. 

On the other hand, if you’re looking to become mortgage-free sooner, a shorter loan term could be the way to go. 

For example, let’s say you have a $200,000 loan with a 4.5% interest rate and 20 years left on the term. If you were to refinance into a new 15-year loan, your monthly payment would increase to about $1,611. But you would save more than $62,000 in interest over the life of the loan. 

Of course, you need to make sure you can afford the higher monthly payments before refinancing into a shorter loan term. 

Cash-out refinance

In some cases, people use a cash-out refinance to tap into the equity they’ve built up in their home. 

With a cash-out refinance, you refinance your current mortgage loan for more than what you owe and pocket the difference in cash. You can then use that cash for things like home improvements or repairs, consolidate high-interest debt or make a large purchase. 

Just keep in mind that a cash-out refinance generally has a higher interest rate than your original mortgage. So if you’re planning to stay in your home for the long haul, it might not make sense to take cash out. 

Invest in retirement

If you’re 50 or older, you can do a special type of cash-out refinance called a reverse mortgage. With a reverse mortgage, you don’t have to make any monthly payments as long as you live in your home. 

Instead, the loan is paid off when you sell your home or pass away. The money you receive from a reverse mortgage can be used for any purpose, including supplementing your retirement income. 

Just keep in mind that a reverse mortgage generally has high fees and interest rates. And if you don’t make property tax and homeowners insurance payments, the loan balance can grow quickly. So it’s important to understand all the risks before taking one out. 

Get rid of mortgage insurance

If you bought a home with less than 20% down, you’re probably paying private mortgage insurance (PMI). PMI protects the lender in case you default on your loan, but it also adds to your monthly payment. 

Once you’ve built up at least 20% equity in your home, you can usually cancel PMI. But some lenders require you to refinance into a new loan to get rid of it. 

If you’re thinking about refinancing to cancel PMI, make sure it’s worth it first. You’ll have to pay closing costs on the new loan, and it could take a while to recoup those costs through the savings on your monthly payment. 

How do I know when to refinance?

In general, you should refinance if it will save you money or help you achieve a financial goal. But there are other circumstances in which refinancing makes sense, even if it doesn’t immediately save you money. 

For example, if you’re planning to sell your home in the near future, it might make sense to refinance now and take advantage of the current low-interest rates. That way, you can keep your monthly payments low until it’s time to sell. 

Or let’s say you have an adjustable-rate mortgage (ARM) that’s about to reset. 

If rates have risen since you took out your loan, your new monthly payment could be much higher than your current one. In that case, refinancing into a fixed-rate loan could help you keep your payments manageable. 

Refinancing can also make sense if you need to take cash out of your home for a major purchase. Just remember that you’ll have to pay interest on the loan, and the interest might be higher than what you’re currently paying. 

When not to refinance

There are also times when refinancing doesn’t make sense, even if it would save you money. 

For example, if you’re planning to sell your home sooner than you would benefit from the refi-savings, the closing costs on a refinance could outweigh the monthly savings. 

In that case, it might make more sense to keep your current loan and put the extra money toward your down payment or other expenses. 

Or let’s say you’re close to paying off your mortgage. If you refinance now, you’ll have to start from scratch and pay interest on the entire loan balance all over again. So unless you’re getting a lower interest rate, it might not be worth it. 

How do I refinance my mortgage?

Refinancing can save you money or help you achieve financial goals. But it’s not the right choice for every homeowner, so make sure to do your research before making a decision. 

Be sure to compare interest rates, closing costs, and other fees from multiple lenders before you choose one. And remember that refinancing isn’t always about getting the lowest monthly payment. Sometimes it’s more important to focus on the total cost of the loan or the long-term financial benefits.

Contact a reputable lender to apply for a mortgage refinance.


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