Of Shorter Terms And Greater Equity
Your signed up for your first home loan, it was probably over thirty years because that was the cheapest way to finance or it gave you the most home for your monthly payment. When you were shopping for funding, did you happen to notice that fifteen-year loans did cost more but not double what you ended up paying each month?
Now that you have a history of making payments on time perhaps you can refinance your home to pay off your loans faster, or you can refinance to make your payments smaller. You can even refinance to take cash out of your home, although, unless you intend to invest it in real estate it is probably not a good thing to do; hold on to your equity and growing your wealth will be the much more rewarding path in the long-term. If this sounds like a smart move, start to make inquiries about it, but keep these potential traps in mind.
The Loan Term Reset Trap
The first trap to avoid in refinancing is rolling from from one thirty-year term to another because you will just reset the clock back to the beginning. It is like you are adding the payments up front where they are mostly interest and little principal. In addition to the closing costs, you will end up paying more interest over a longer period.
Leaving Mortgage Insurance Behind
If you financed your present loan through FHA, with a small down payment and mortgage insurance or on a conventional loan with PMI, it was a great way to get started. However, once you have accrued some equity, you can move on to save costs and expand your equity share more quickly. FHA rules require you to have mortgage insurance for the life of the loan, hence the necessity to refinance to get those savings. For conventional loans, PMI payments can be stopped after the loan balance is paid down sufficiently.
The Cost Of Closing Trap
There are always costs in refinancing; these closing costs must be weighed against the monthly savings to determine if it is worth refinancing. The cost added to your loan should be less than the savings you gain over three years. Also, try to avoid the temptation to take cash out at closing because this is essentially a hidden closing cost. Even a relatively small cash advance will cost you several times the amount over the life of your loan.
Traps That Steal Long-Term Value
Are you certain enough of your income to justify a higher monthly payment to clear your loan sooner? If you find yourself forced to sell, you will not get the benefits down the road. Don’t get trapped into refinancing and then having to sell with all the additional closing cost hanging over you.
Refinancing is only really beneficial if you intend to stay put for a significant length of time. If you are in your home long-term, you want to cut your term from thirty years to fifteen, and have enough equity to forego mortgage insurance then you can save some money by refinancing. If you replace your previously government-backed home loan with one that has no need of mortgage insurance, a lower interest rate and half the term you will pay much less over the life of your loan.