When you refinance a mortgage, the lender pays off your original mortgage loan and creates a new mortgage contract between yourself and the lender. Refinancing can be pursued for many reasons, such as seeking lower payments or switching from an adjustable rate mortgage to a fixed rate mortgage. The timing of a refinance can be important in saving you money.
Changing Types
A common reason to refinance your mortgage is to change the mortgage from an adjustable rate mortgage, also known as an ARM, to a fixed rate mortgage. The fixed rate mortgage has the same interest rate throughout the life of the mortgage. A fixed interest rate mortgage allows the borrower to have the same mortgage payments, instead of mortgage payments that may go up significantly as rates adjust.
Interest Rate Fluctuations
Mortgage rates change over time, and the current rate may be significantly lower than your interest rate when you originally took out your mortgage. A lower interest rate does not automatically mean that a refinance is in your best interest, however. If you aren't going to stay in your home for the length of the mortgage, or the refinance costs are too high, then lowering your rate by a few points is probably not worth it.
Monthly Payments
If you extend the length of your mortgage or lower the interest rate by a large amount, your monthly mortgage payment is reduced. If you extend your mortgage term to 30 years, you will end up paying more in interest over time. The lower month-to-month payments are useful in the event of a financial problem, medical issue or job loss.
Closing Costs
Every time you refinance your mortgage, the lender charges you closing costs. You'll want to avoid refinancing a mortgage unless the benefit outweighs the closing costs that are charged. Typical lender closing costs for a mortgage refinance includes origination and title fees. Bankrate reports that average closing costs on a $200,000 mortgage loan are $3,118.
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