Why refinancing may not be the right choice

Posted by  on May 15, 2012

Does it make sense to refinance just because you can? Yes, America is experiencing some of the best mortgage rates in history. But lowering interest on a mortgage loan may not be enough of a reason to get a home refinance. Consider some potential drawbacks to refinancing.

Restarting amortization on a mortgage

When you applied for a home loan, you received an amortization schedule of principal and interest payments. Early in the schedule you probably noticed that more of your monthly loan payments went toward interest than the principal. Over time, as you make mortgage payments, more of your money goes toward the principal, until after many years most of your payment is applied to the balance. Let's say you refinance to another 30-year mortgage. You end up restarting the amortization period and may pay more interest over time by increasing the number of years needed to retire the loan.

It is important to run the numbers carefully to determine how much you actually save by refinancing. If you are in a position to refinance into a mortgage with a shorter term such as 15 years, restarting the amortization period may not result in more interest. Do not apply for a home refinance without understanding how the amortization schedule will change.

You've lost a lot of home equity

So many homeowners have lost significant amounts of home equity since the housing crisis began, and there is a good chance you, too, have seen your home's value drop. While you may be able to qualify for refinancing, it is important to keep an eye on the percentage of equity remaining. If your home equity has fallen below 20 percent, you could end up making mortgage insurance (MI) payments even if you currently are not. Mortgage insurance protects the lender in case you default on a home loan. Determine whether or not you are willing to deal with MI payments in order to refinance your home loan.

The closing costs are too high

Depending upon the type of deal you choose, you could end up paying 1% to 5% of your balance in refinancing fees. You also might be hit with a prepayment penalty or other costs related to getting rid of your current mortgage. Among the closing costs are fees for the mortgage application, loan origination, home appraisal, attorney, points and title insurance. Compare Good Faith Estimates of all the charges from several lenders when you apply for a home refinance.

Compare deals from several lenders

Refinancing a home loan is a big step. Don't let your emotions get the best of you when making the decision to apply for a refinance. Take time to compare mortgage rates and loan packages from several mortgage lenders. If a mortgage lender is unwilling or unable to explain all the numbers to you, find one that will.


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