There is plenty of uncertainty in the world today, but one thing you as a homeowner can be certain of is that you have to pay your mortgage every month.
With that being said, plenty of mortgage borrowers are securing some financial respite in these trying times by refinancing at new lower interest rates. Considering that fixed mortgage rates have dropped by 40% in two years, you’re probably at least considering it.
Should you refinance your existing mortgage in 2012? There are several factors to consider. By doing a little research, you can determine pretty clearly if it is a good financial choice.
Rates Are at Historic Lows
In the wake of the 2008 mortgage crisis, the Federal Reserves slashed its benchmark interest rate from a height of 5.25% to essentially 0%. With this huge reduction, thirty-year fixed-rate mortgage rates dropped to half of their pre-crisis levels.
As the economy improved, the Fed gradually increased rates. Predicably, banks and other lenders followed suit. Fixed-rate mortgages inched up to around 5%.
Then COVID-19 happened. The Fed actually started cutting rates in 2019 to encourage economic growth, but when the national economy effectively shut down with the pandemic, they further slashed them to zero.
Today, mortgage rates are at historic lows. They are even lower than they were in the worst days of the mortgage crisis. It is unsurprising, then, that many homeowners want to refinance at these lower rates.
Fannie and Freddie’s New Fee
Unfortunately, things are not quite as cut and dry as they may seem, when it comes to reduced mortgage interest. While the rate itself might be attractive right now, there is a possible offsetting factor.
Last year, Fannie Mae and Freddie Mac, the government-sponsored entities that back many housing lenders, announced that they were introducing a new 0.5% “adverse market” fee.
This fee seems to be a direct response to the spike in mortgage refinancing in 2020.
What the “Adverse Market” Fee Means for Borrowers
The effect of the “adverse market” fee is not immediately apparent right now.
This fee is charged to financial institutions, not individual borrowers. Also, it is a one-time charge for refinanced mortgages, not an increase to the mortgage interest rate. Still, there is nothing technically preventing your bank from increasing its refinance rate to offset this charge.
Consequently, when shopping around for refinancing options, you should confirm with lenders whether your potential new mortgage will be subject to this fee. Should it be subject to the fee, you need to confirm whether your new rate is increased as a result.
Bear in mind, some lenders are not backed by Fannie and Freddie and thus are not subject to the fee. Non-conforming loans, as they are called, may have higher base rates, though. That should factor into your decision.
Figuring Closing Costs Versus Savings
Your biggest financial hurdle when you refinance an existing mortgage is closing costs. You paid them when you bought your home, and sadly, you need to pay them again with each refinance.
These costs can run to as high as 5% of your outstanding loan amount. This means that you want to ensure that any rate reduction you receive will offset those costs in a reasonable timeframe.
How do you determine that?
The operative factors are:
- How much of your principal you have left to pay down?
- How long you plan to remain in your home?
If you have a large principal balance to refinance, your closing costs will be higher than you would like. If you might sell your house soon, then the likelihood of your recouping your closing costs goes down.
You need to get a clear sense of what rate reduction you will see and how that reduction will manifest itself in your monthly payment. Then, you can determine how many months it will take to break even. The website Credible offers an easy module to see what your potential monthly savings would be.
Knowing when you will recoup your closing costs will tell both when you will begin saving money and how much you stand to save over time. And that’s what this is all about, right?
Qualifying for Optimal Terms
Many of the factors discussed above are related to financial policy and your current loan status. However, there are personal concerns that will affect your ability to secure optimal refinancing terms.
We are in an economic downturn. In large part, that is why interest rates are so low, but it also means that many people are in precarious financial situations. You need to review carefully your household’s finances to be sure you qualify.
As you may recall from buying your home, lenders look at your debt-to-income ratio. If you lost your job or took a pay cut since securing your first mortgage, you may not qualify for the best terms. Additionally, if you have accrued a lot of debt, your creditworthiness might have suffered.
Of course, many folks are going through fiscal challenges, and they are likely to be temporary. But if you are facing economic hardship, refinancing your mortgage might not be the best tool to stabilize things.
A Pending Rate Rebound?
The question remains: is now the right time to refinance? After all, mortgage rates have declined steadily for the last two years, and they have gone into freefall since March 2020.
We’re looking at some of the direst economic conditions in modern history. Is there any chance we could be looking at even lower interest rates in 2022?
A lot of current data suggest that we are probably at the floor for falling interest rates. This is about as low as they have ever been. Plus, a confluence of factors may lead to a rebound soon.
2008 Versus Today
Every financial era has its unique upsides and pitfalls. The same can be said of every financial crisis.
It took a long time for the economy to pick up speed after the 2008 financial collapse. So why would things be different in 2021?
Consider this: the root causes of the 2008 crisis were complex. They involved housing costs, lending rates, financial services, retirement plans, and the list goes on. After markets imploded, it took a while to reestablish faith in a lot of different economic institutions. This was compounded by a concurrent employment crisis that lingered.
By contrast, the cause of today’s crisis is relatively straightforward. The economy will likely start to improve once the virus is under control, and the rebound might be as dramatic as the downturn.
Unlike in 2008, the housing market is largely unscathed. Property values have not decreased significantly, and single-family home sales rose from 2019 to 2020. In short, we do not appear to have entered a lingering economic downturn like we were in a decade ago.
With this in mind, it seems likely that these historically-low rates will not last much longer. Vaccine distribution has begun and is picking up steam. As more people get vaccinated and shutdown measures abate, economic activity will likely start churning quickly.
What’s more, the federal government pressing for a fairly robust stimulus, which will probably speed vaccinations and shore up businesses and individuals alike.
All of these eventualities are great things. They also presage an increase in mortgage interest rates. So, if you find, after careful research, that refinancing is a good option for your household, you should move fast. The sooner you close on your new loan, the better the interest rate will probably be.
Preparing to Refinance
You have done your research and confirmed that refinancing is a sound financial choice. You are ready to pull the trigger before rates go up again. So, what are the next steps?
Simply put, you will want to make all the preparations you made for your initial home purchase.
As outlined above, you should shop around your potential lenders to find the best refinance terms. Once you have identified your preferred lender, familiarize yourself with the current lending process. Many institutions have moved to a fully contactless model since the emergence of COVID-19.
You also need to get your consumer debt as low as possible. A credit score in the mid-700s will guarantee you the optimal interest rate with virtually any lender. So, just as you did when you bought your home, pay down those credit cards and personal loans!
Research Carefully and Proceed with Purpose
With all of these factors in mind, you can see how important it is to do your homework when deciding whether to refinance your mortgage.
Do the calculations. Make sure that you will see real savings. Confirm your finances qualify you for an optimal rate. Shop rates and communicate clearly with potential lenders. When you’re certain that this is the right choice, move quickly.
After all, the last year has been full of surprises, most of them unpleasant. It can be satisfying to take control of your home finances and save yourself some real money.