When Refinancing Your Mortgage Is Not a Good Idea
by Dan Caplinger | Dec. 14, 2018
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Even when it seems tempting, there are often good reasons for staying put.
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Millions of homeowners have successfully refinanced their mortgages in recent years. Mortgage rates fell to rock-bottom levels and stayed there for a long time, and that made it smart for many mortgage borrowers to take advantage of savings available from refinancing.
But just because you can refinance doesn't mean that it's always the best move. Sometimes, refinancing your mortgage just isn't a good idea -- and you might be better off sticking with your current mortgage loan. Below, we'll look at some of the most common situations in which you probably shouldn't refinance.
1. You don't expect to stay in your home much longer
Refinancing always involves a tradeoff. On the plus side, a lower interest rate means that you'll either have lower monthly payments or get your mortgage debt paid down more quickly. But on the minus side, there are typically upfront costs involved with refinancing -- money that either has to come straight out of your pocket or get added to the outstanding principal balance on your loan. Items like closing costs, reappraisal fees, title insurance, and administrative expenses all fall into this category.
If you divide the total costs by the anticipated interest savings per month, then you should be able to calculate a break-even date. Stay in your home long enough to recoup all those upfront costs, and refinancing will have been a smart move. But if you sell your home before you hit the break-even date, you would've been better off just sticking with your old mortgage rather than refinancing.
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2. The only way to get a lower rate is to switch from a fixed to an adjustable rate mortgage
Borrowers typically have a choice between taking a fixed rate mortgage or an adjustable rate mortgage (ARM). As the name suggests, fixed mortgages have a fixed interest rate throughout the term of the mortgage. ARMs have rates that move according to schedules set out in the mortgage. For instance, a 1/1 ARM has a fixed rate for the first year, and then the rate changes every year after that.
ARMs usually have lower rates than fixed mortgages, and so refinancing from a fixed mortgage to an ARM might save you money in the short run. But especially when interest rates are on the upswing, the rate adjustments can quickly make those savings disappear -- and you could even end up having to pay more in interest than if you'd just stuck with your original mortgage loan.
3. You don't want to add more years to your payoff period
Finally, one reason why many homeowners choose not to refinance their mortgages is that they don't want to restart the clock on when they'll be able to have their mortgage debt completely paid off. Because most of your monthly payments early in your mortgage go toward paying down interest, you might not have that much equity in your home even after making payments for several years. If you've been paying your mortgage for five years and then replace your existing 30-year mortgage with a new 30-year mortgage, you'll have to wait another five years longer to be debt-free.
In some cases, you can refinance with a different type of mortgage that fits your repayment schedule better. For instance, if you got a 30-year mortgage about 15 years ago, then refinancing with a 15-year mortgage instead of a 30-year mortgage won't give you as much savings in monthly payments -- but it will get your mortgage paid off when you initially expected. However, because you can't always tailor a new mortgage term to what was left on your old mortgage, it's sometimes better just to hang onto what you already have.
Be smart with your mortgage debt
Mortgage loans are often the biggest debt obligations homeowners will ever owe. By being smart about knowing whether it is or isn't a good idea to refinance, you'll put yourself in the best position to handle a key aspect of your finances in the best possible way.
A historic opportunity to potentially save thousands on your mortgage
Chances are, interest rates won't stay put at multi-decade lows for much longer. That's why taking action today is crucial, whether you're wanting to refinance and cut your mortgage payment or you're ready to pull the trigger on a new home purchase.
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About the Author
Dan is a lawyer and financial planner. He has been writing since 2006 and covers topics ranging from investing and tax planning to personal finance.
We’re firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers. The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.
