Refinancing your mortgage can seem like a smart financial move when interest rates begin to drop. But according to personal finance expert Suze Orman, it’s not as simple as jumping at a lower rate. With rates not dropping particularly low for the foreseeable future, there might not be an opportunity soon, but it’s still good to know what to expect when the time is right.
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On a recent episode of her Women & Money podcast, Orman broke down what homeowners need to think about before deciding to refinance.
One of the biggest refinancing mistakes Orman sees is resetting the mortgage term to another 30 years, even if you’ve already paid down several years. This adds time and interest back into your loan, potentially costing more in the long run.
“Then you refinance for another 30 years. So these four or five years that you have been paying on it, you’ve just lost all of that,” she said.
Rule No. 1, if you ever do refinance, she said, “You have to make sure you don’t have the mortgage term longer than the current amount of years left on your mortgage,” she said.
So if you’ve paid five years on a 30-year mortgage, you should only refinance into a 25-year loan, or even shorter, if possible.
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Another key factor to consider is how long it will take for your savings from refinancing to exceed the cost of the refinance itself.
“What is it going to cost you to totally refinance this house? And what will the savings be … between your new mortgage rate and your old? Then you divide that number, the difference, into the cost of refinancing,” she said.
This simple calculation helps you determine your break-even point and how long it will take for your lower monthly payments to cover the upfront cost of the refinance. If you won’t be in the home long enough to reach that point, refinancing may not be worth it.
If it’s going to be between five and seven years and you don’t think you’re going to be in the house that long, “then it makes absolutely no sense to do it,” she said. If you’re looking at just a couple of years and you know you’re planning to stay in the house that long or longer, then you might want to refinance.
Orman cautioned that other details, like whether or not you’ll pay points or how much the closing costs will be, also impact whether refinancing is the right move. It’s not a one-size-fits-all decision.