Find out if doing a refinance is best for your situation.
This week I’ll be answering a reader’s question about how to know if you should refinance your mortgage:
“Hi, Money Girl. I have a quick question about taking a home mortgage. If I were interested in getting a lower interest rate on my home by refinancing my mortgage, but I still plan on moving out of my home in about two or three years, does it actually make sense to refinance? What types of things would I want to actually consider before taking the plunge and refinancing? Anyways, thank you and my name is Ben.”
Ben, I appreciate your excellent question! It’s a perfect time to talk about refinancing because right now interest rates are low.
What are Interest Rates?
An interest rate is simply the cost of money. Rates in the U.S. fluctuate according to the monetary policy of the Federal Reserve, which is our central bank. When interest rates are low, money’s on sale--as strange as that sounds! Banks should display a big banner on their front door or website that reads “bargain basement prices on dollars” or “we sell money cheap” because that’s exactly what happens when interest rates go down. Low rates are great for borrowers, but not so good for lenders.
Low Rates are Good for Borrowers
Back in post 150, I discussed how low interest rates put a squeeze on your savings and I gave tips on where to find the highest rates. When you put your money in a savings account, money market deposit account, or a CD, you’re the lender. You don’t earn much on the money you sock away in the bank when interest rates are low. However, when the tables are turned and you’re the borrower, low rates are great!
The Freddie Mac website shows historical data for interest rates on 30-year mortgages since 1971. I’ll include a link to that information at the bottom of this article. In October of 2009 the average for a fixed-rate, 30-year mortgage was 4.98%. A year earlier, the same loan was 6.2%, and ten years earlier it was 7.85%.
What is a Mortgage Refinance?
If you already have a mortgage, you had to borrow money at the prevailing interest rate at the time you took out the loan. Other factors influenced the rate you were offered, too, such as your credit score and the amount of your down payment.
But the going interest rate is always the most important factor for a mortgage. So when interest rates drop, it’s a good idea to investigate doing a refinance. Whenever rates drop at least one percentage point below the rate you have, take a hard look at refinancing. Before I answer Ben’s question about what needs to be considered before jumping feet first into a refinance, let me make sure you understand what happens when you do one.