Refinancing your home. It seems like every month, some neighbor or family member is telling you about how they just refinanced. Billboards and television ads are constantly promoting it. But is it the right thing for you?
The answer: Maybe.
I know, I know – the word “maybe” feels like fence sitting. We all prefer simple, cut-and-dried answers, but finance doesn’t work that way. Since no two people have the same financial situation, no two people should use the same financial strategy.
That said, this is certainly a good time to look at refinancing. Why? Because of the COVID-19 recession, interest rates are as low as they have been in our lifetime. What’s more, they’re likely to stay low for quite some time. So, it’s worth considering if there are any good ways to take advantage of that.
Refinancing may be one of those ways.
The Pros and Cons of Refinancing Your Home
Most people who refinance their home do it for a very simple reason: To lock in a lower interest rate. One rule of thumb is that if you can reduce your interest payments by 2% or more, refinancing is a serious option to consider.
In March of 2020, the Federal Reserve cut interest rates to nearly zero as part of their efforts to prop up the economy during the pandemic. On December 16, the Fed committed to keeping interest rates at 0 to 0.25%.1 So, this may be a chance to reduce the current interest rate on your mortgage by a significant amount. This could both help you save money and build more equity in your home at a faster rate.
Lower interest rates also give some homeowners the ability to refinance in order to shorten the length of their loan. Because interest rates are lower, reducing the length of your mortgage may not affect your monthly payments by very much, if at all.
Another added benefit is that by reducing your mortgage payments, you are freeing up monthly cash to invest in the markets. Since the markets have completely recovered from the March 2020 crash – and with many analysts expecting the economy to bounce back in 2021 – this is a good time to focus on investing in your future and saving for retirement.
All that said, refinancing isn’t for everyone. If you are refinancing to draw from your current equity, or to consolidate debt, you will probably increase the length of your mortgage. For those nearing retirement, that’s rarely a smart move. The same goes for those who are already more than halfway through paying off their current loan, or who plan on moving in the next few years. Refinancing also takes time and comes with its own set of fees.
Ultimately, the decision to refinance comes down to one simple question: Does the math make sense? It’s important to look at your situation, crunch the numbers, and ask questions. Basing your decision off your overall financial plan is smarter than simply relying on low interest rates alone.
Refinancing is an important decision, and it deserves some serious thought. I hope you found this helpful. Good luck and have a great rest of the week!
1 “Federal Reserve issues FOMC statement,” The Federal Reserve, December 16, 2020. https://www.federalreserve.gov/newsevents/pressreleases/monetary20201216a.htm