To Refinance or Not to Refinance?

As a homeowner, it may be worthwhile refinancing a mortgage for a lower rate. Refinancing is the process by which an existing mortgage is exchanged for a mortgage with a lower interest rate. Of course, there are pros and cons to refinancing. Consider a mortgage repayment of £185,000 over a long-term loan (30 years) with an initial fixed rate for 2 years and a variable rate for the remaining 28 years of the loan. The fixed-rate is locked in. This rate cannot be changed regardless of the current interest rate.

 

The variable rate is a little more complicated. With a variable rate, the initial mortgage rate no longer applies. Homeowners will be subject to their specific bank’s buy to let variable rate, or the standard variable rate. These figures are published and updated by banks. At the end of the fixed-rate mortgage, the standard variable rate kicks in. For the most part, UK homeowners tend to prefer fixed-rate mortgages.

 

The interest rate cannot change for the duration of the ‘fixed’ period. This means that mortgage repayments are set, regardless of what the market is doing. If a low-interest rate is locked in at inception, this can prove especially beneficial when interest rates start rising considerably over time.

 

Unbeknownst to many first-time homeowners, substantial costs are involved with homeownership. The majority of the payments for the first 10 – 15 years of a typical 30-year mortgage is actually interest repayment. Minimal principle is paid down in the beginning, with the bulk of the principal being paid towards the end of the mortgage. For homeowners looking to refinance their mortgages, a good time to do this is the conclusion of the fixed-rate period. With a variable-rate mortgage, the actual number depends upon the national interest rate. The only time a variable rate mortgage works in a homeowner’s favour is when interest rates are dropping.

 

Is it ever a Good Idea to Refinance a Mortgage?

 

Mortgages can be refinanced, provided the property owner qualifies for refinancing. This complex process is especially difficult for self-employed individuals, since profit and loss statements, audits, tax returns, bank statements, debt to income ratios and other important documents are required. Besides the paper trail, there are many fees to consider. These include the following:

 

  • Loan origination fees
  • Property appraisal charges
  • The mortgage application fee
  • Survey fees/inspection fees/closing fee

 

The percentages are small, but given the value of a mortgage these figures quickly add up. Often, refinancing rolls the costs of the mortgage into the new fees. It’s entirely possible that a significant chunk of the principal that has been paid off may be lost in a refinanced mortgage.

 

Put differently, homeowners may find themselves back at square one, albeit with a lower interest rate. This predicament decreases the monthly burden, but it also decreases the equity in the property. There are many aspects of mortgage refinancing to consider, and a lower interest rate isn’t always the best way to go.

 

As a rule of thumb, financial experts advise anyone wanting to refinance to consider how long it will take to pay off the costs of the refinance. An interest-rate reduction of at least 2% is worth pursuing. Mortgage calculators are useful tools in this regard. Unfortunately, refinancing costs can be substantial, and amount to 3% – 6% of the principal amount of the loan.

 

Savings that are enjoyed through lower interest repayments will still take many years to recover the costs of the refinanced mortgage. From a different perspective, refinancing can reduce the debt to income ratio, helping to improve credit scores and grow financial portfolios through additional homeownership.

 

What to do with More Disposable Income?

 

Mortgage refinancing increases disposable income. That’s because the raison d’etre for refinancing is lower monthly payments. Real money can be leveraged through different assets, investments and opportunities. Some folks invest in stocks, bonds, commodities, indices, and currency pairs. Others opt for an affordable entertainment budget and try their luck at an online casino platform, or the National Lottery. Regardless, it’s all about decreasing the debt burden and improving the quality of one’s lifestyle.

 

To make a long story short, refinancing is beneficial when there are substantial cost savings in terms of monthly mortgage repayments. The money can be put into retirement savings, home renovations, or a much-needed rainy day fund. The value of disposable income cannot be understated, especially in today’s tumultuous global economy.