People tend to pounce on refinancing opportunities. After all, you never know how long low refinance rates are going to be available. However, while a sense of urgency about refinancing can be good, you should also look at refinancing within the broader context of your household finances.
Every aspect of your financial condition is interconnected. Here are six big-picture questions to ask when you refinance:
1. Are there other debts that should be refinanced?
Saving a percentage point or two on your mortgage is a nice opportunity, but the real win might come from saving several percentage points by refinancing high-cost debts with a cash-out mortgage refinance.
This needs to be done with caution. As will be discussed below, there is a down side to giving up equity in your home; and increasing your mortgage debt could put you at greater risk of losing your home to foreclosure. Make sure you have a spending plan in place that allows you to pay debts down instead of continuing to incur them. If that's the case, then interest rate savings from refinancing high-cost debt into a cash-out mortgage may be worth the risk involved.
2. What will refinancing do to home equity?
Home equity is often depicted by the mortgage industry as a piggy bank you can tap into at will. While it is a resource, home equity should not be diminished lightly. Having a healthy cushion of equity gives you more flexibility to refinance or sell your home in the future, even if its price drops somewhat.
3. How will new mortgage payments affect your monthly budget?
Don't just look at the difference refinancing makes to your mortgage payments; reassess your overall budget may look like if you refinance. If you refinance for a shorter term, you might end up with higher monthly payments in order to pay less in interest over the life of the loan. Where will you make adjustments to handle those payments?
4. Is your income outlook reliable?
If refinancing changes the remaining repayment period for your mortgage, you have to consider how likely you are to continue having the income to make your payments over the remainder of the loan. If you are 10 years from retirement and refinance into a new 30-year mortgage, figure out where those extra 20 years of payments are going to come from, unless you plan to sell when you retire.
5. Are other major expenses looming?
Any change to your mortgage repayment pattern could affect upcoming obligations such as paying for college. Make sure you have factored long-range developments in along with looking at the immediate cash flow impact.
6. What will you do with refinancing savings?
It is great if refinancing saves you money, but you should have a clear plan for what to do with those savings. It is too easy for a little extra money to get absorbed in routine household spending, when it could be put to better use boosting your retirement saving.
Low mortgage rates have created a great opportunity for millions of homeowners to refinance. To make the most of that opportunity, put refinancing in a big-picture context.