The 1 Situation Where It Could Easily Pay to Refinance Right Now

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  • It usually makes sense to refinance when mortgage rates are down.
  • If you have an adjustable-rate mortgage whose interest rate is climbing, then a refinance could save you money.

For many homeowners, the purpose of refinancing a mortgage is to lower their monthly loan payments. In 2020, when mortgage rates plunged to record lows, many homeowners rushed to refinance their mortgages in the hopes of reaping savings.

These days, however, mortgage rates aren't really a bargain. As of May 11, the average rate for a 30-year mortgage was 6.35%, according to Freddie Mac. And so generally speaking, it's pretty fair to say that now's not a great time to look at refinancing a home loan.

But that doesn't mean a refinance is wrong for you. For one thing, you may be looking to take cash out of your home. And you may find that a cash-out refinance makes more sense for you than borrowing via a home equity loan or line of credit.

But there's another reason it could pay to refinance today, even with mortgage rates being up. You'll just need to run the numbers to see what makes sense.

When your loan's interest rate is climbing

Many people sign a fixed-rate mortgage to lock in predictable monthly payments that won't change over time (unless they refinance, of course). But if you signed an adjustable-rate mortgage when you bought your home, you're no doubt aware that you don't get the benefit of fixed monthly payments.

Usually, home buyers are tempted to sign an adjustable-rate mortgage because there can be initial savings involved. You'll often snag a lower interest rate on an adjustable-rate mortgage than on a fixed 30-year loan, but that initial rate will only remain in place for a period of time, depending on your loan. With a 5/1 ARM, for example, you'll lock in your initial interest rate for a five-year period, after which your loan's interest rate has the potential to adjust once a year.

Now, it's sometimes the case that the rate on an adjustable-rate mortgage adjusts downward over time, not upward. But generally, the rate on one of these loans will shift as market conditions change. And based on today's borrowing rates, there's a good chance that if you signed an adjustable-rate mortgage years ago, the rate on your loan is now climbing. And if it's climbing beyond where interest rates are today, then a refinance could make sense.

Run the numbers on a refinance

Let's say the interest rate on your adjustable-rate mortgage just climbed to 6.4% and you're able to refinance to a fixed rate of 6.35% instead. That doesn't necessarily make sense, because you'll pay closing costs to refinance a mortgage. And those could easily amount to 2% to 5% of your loan balance. So the general convention is that it makes sense to refinance a mortgage when you can shave about 1% or more off of your loan's interest rate.

With an adjustable-rate mortgage, you may want to consider refinancing when there's a smaller gap, because the rate on your loan could continue to climb over time. But you might still want to wait until there's more of a difference than 0.05%.

Ultimately, your best bet is to run the numbers to see if a refinance makes sense. Any lender you work with should be able to tell you what your new loan payments will look like and what your closing costs will amount to. Once you have that information, you can make an informed decision.

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