4 Reasons You Shouldn't Refinance a Mortgage

by Maurie Backman | Updated July 19, 2021 - First published on Sept. 5, 2020

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Refinancing can save you money -- but only under the right circumstances.

If it seems like everyone you know is rushing to refinance their home loans lately, there's a reason. Mortgage rates have dropped significantly in the past few months, so if you refinance -- basically, swapping your existing home loan for a new one with more favorable terms -- you could reap some serious savings. But don't just assume refinancing makes sense for you. Here's when it doesn't.

1. You can't lower your interest rate all that much

Refinancing can save you money by lowering the interest rate you're paying on your home loan. But refinancing isn't free. There are closing costs associated with refinancing, just as there were when you signed the original mortgage. And if you don't manage to lower your interest rate enough, you won't benefit a lot from refinancing.

Imagine that you pay $4,000 in closing costs to refinance. Let's also say that in refinancing, you lower your rate by 0.25%, which drops your monthly payment by $40. Granted, that's still savings. But given those closing costs, it will take 100 months -- or a little more than eight years -- just to break even.

As a general rule, it really only pays to refinance if you can slash your interest rate by about a full percentage point or more. If you can't, it often pays to hold off.

2. You're not planning to stay in your home very long

We just discussed the closing costs associated with refinancing, and how it takes time to come out ahead after paying them. Even if you're able to lower your interest rate quite a lot by refinancing, doing so makes little sense if you won't be in your home long enough to see the savings.

Imagine you spend $4,000 on closing costs to lower your mortgage payment by $200 a month, a nice savings. But if you won't be in your home for more than 20 months, then you won't actually save a thing.

3. Your credit score isn't very good

There's no limit to how many times you can refinance a mortgage, but each time, you'll pay those dreaded closing costs. If your credit score has greatly improved since you signed your current home loan, then refinancing could produce major savings. But if your credit score isn't all that great, you may not snag a mortgage rate low enough to make refinancing worthwhile.

If that's the case, you can always work to improve your credit and become eligible for a more favorable refinance rate down the line. Paying your incoming bills on time, knocking out a chunk of your existing credit card debt, and asking for a credit limit increase are all ways to boost your credit over time, and once you do, refinancing could be a lot more lucrative.

4. You could end up dragging out your repayment period

When you refinance a mortgage, you usually lower your monthly payments -- but often, you also reset the clock. Imagine you're two years into paying a 30-year loan when you decide to refinance to a new 30-year loan. Now you're back to having 30 years of payments ahead of you instead of 28. And that could get in the way of goals you might have.

For example, if you're in your late 30s, and your goal is to pay off your home by the time you retire, signing a new 30-year mortgage could mean you kick off retirement with a home loan payment hanging over your head. Of course, you could accelerate that repayment period by putting extra money into your mortgage over time, while enjoying the savings that come with a lower interest rate. But if you're not planning to do that, then know that refinancing could create a scenario where it takes even longer to shed your housing debt.

Refinancing can be a major money-saver -- but it doesn't always make sense. Weigh your options carefully before refinancing, so you don't wind up regretting that decision.

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