Whether or not financing closing costs when refinancing your mortgage is a good idea depends on your circumstances. Closing costs may include costs such as settlement fees, one-year homeowners insurance, escrow reserves, property taxes, legal fees and so on. You may refinance your home for a number of reasons, the most common by far being to cash-out your equity, or at least some of it.
Cash-out refinance can be used for debt consolidation, to finance school or college fees, or even to build an extension to your home. It is often possible to include the closing costs in the principal sum, and repay that at a higher interest rate over the term of the new mortgage. Is this wise or is it foolish?
Disadvantages of Financing Closing Costs
If you are allowed to include the closing costs in your mortgage, the price is generally going to be a higher interest rate and balance. Whether or not it is worth doing will depend initially on what the higher rate is. Lenders will not consider offering this with a first mortgage, your only hope then being if the seller agrees to pay some of the closing costs.
With refinance, however, you will still have equity in your home, so lenders are more amenable – along with that interest rate hike. It means you will be paying a higher interest rate for the whole term of the mortgage. This is a common reason for foreclosure: an inability to make the higher payment month on month over 30 years. After about 5 years you will have paid the closing costs and the rest is a net loss to you.
Benefits of Financing Closing Costs
If you don’t have the cash available to pay the fees at closing, then you either don’t get the refinance or you must apply to have them rolled into the new mortgage. Keep in mind you can only cash-out a proportion of your equity, so that the lender has the security of what is left. Whether you will be permitted to do this or not will depend on the amount of both the remaining equity and your new mortgage.
There are pros and cons to financing closing costs when refinancing a mortgage. It enables you make use of some of your equity even though you have no cash at all to close the new mortgage.
The best way to find out if financing closing costs makes sense for your situation is to speak to a mortgage professional so that they can run the numbers and give you the big picture. The length of how long you expect to be in your mortgage will play a role in whether or not financing closing costs makes the most sense for you.