Should I Refinance?
I am often asked, “Should I refinance?” “Does it make sense?” And my answer is often “It depends."
To me it is, in part, a simple math question coupled with some additional considerations based on your own personal circumstances. For example, you will want to consider how long you may stay in the home or if you want, or need, some cash out but it all starts with the math.
Here is a little formula that might help you get the answers you need;
Current Loan Balance: $_____________________ x current annual interest rate of _____% = $_______________ annual cost of interest (line 1)
Current Loan Balance:$______________________ x new annual interest rate of _____% = $________________ annual cost of interest (line 2)
Difference between line 1 and line 2 = _____________________ (annual interest savings in year one after refinance and this figure will be very similar for years 2 and 3 with the savings decreasing slightly as balance decreases.
Closing costs associated with obtaining the refinance = $______________________________
If annual interest rate savings cover the costs associated with the refinance in a year or two or even a little longer it may be worth refinancing, it all depends on how long you plan to keep the new loan.
Example;
Current Loan Balance: $400,000 x current annual interest rate of 4.00% = $16,000 annual cost (line 1)
Current Loan Balance:$400,000 x new annual interest rate of 3.125% = $12,500 annual cost (line 2)
Difference between line 1 and line 2 = $3500 (interest savings in year one after refinance and this figure will likely be very similar for years 2 and 3 with the savings decreasing slightly as balance decreases).
Closing costs associated with obtaining the Refinance = $3500
You can see in this example that you “break even” after approximately 12 months so if you are likely to keep this home and/or loan for a year or longer it may make good sense to consider refinancing.
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