With Mortgage Rates at 5%, Is Refinancing Worth It?

Refinancing can save thousands of dollars over the life of a loan.

After nearly two years of record-low interest rates, they're on the rise again. Does that mean you missed your chance to refinance? Not necessarily. Even though rates are climbing, they're still decent from a historical perspective. For example:

• Mortgage rates in the 1970s fluctuated between 7% and 11%.
• In the 1980s, rates seesawed from 11% to just shy of 17%, and back down to 10%.
• The 1990s were a bit more stable, with rates oscillating between 7% and 10%.

Suddenly, 5% doesn't look so bad.

What's a mortgage refinance?

Refinancing a mortgage means you're trading your old mortgage in for a new one. You may even have a new balance. If it feels a lot like applying for a brand new mortgage, that's because it is. Unless your lender happens to waive the appraisal (which, to my knowledge, only happened during the pandemic), you'll need to have the house appraised. And even if you're refinancing with your original lender, it will want to run a fresh credit check to make sure you can still make the payments.

There's no denying that refinancing is a process, but one that may ultimately save you money. Here, we'll answer whether refinancing makes sense, even as interest rates climb.

Yes, if your current rate is higher

Let's say your current mortgage rate is 6.5% and the amount of your original mortgage was $200,000. If you took out a 30-year fixed mortgage, that means your principal and interest payment is $1,264 per month. Of course, your total payment is likely higher because you're also paying property taxes, homeowners insurance, and possibly, private mortgage insurance (PMI) each month as well.

But for now, we'll focus solely on principal and interest. By the time you refinance a mortgage, chances are you've paid the principal down some. Let's imagine that your balance is down to $180,000 and that's the amount you plan to refinance. At 5%, the principal and interest on a 30-year fixed mortgage will run $966 per month. That's a monthly savings of $298. It generally pays to refinance if you can get a new rate that’s at least 1 percentage point lower than your current rate.

Yes, if you can save money by changing the loan type

If you took out an adjustable-rate mortgage (ARM) with a rate that could go up when the term is up, you may be rethinking that decision. Maybe you bought a house, believing you would only keep it for a few years. At that point, an ARM made sense. Now you realize you're going to stay around a while longer and want a rate that won't change. In this case, refinancing may be your best option.

The same is true if you're lugging around an FHA loan with mortgage insurance payments that can't be dropped, no matter how much equity you have in the home. By refinancing your property with a conventional mortgage, you only need to pay PMI until you have at least 20% equity.

Yes, if you plan on staying in the home

Last year, my husband and I refinanced our mortgage. Doing so saved us $300 per month, which is an amazing way to put an extra $3,600 away each year. Refinancing isn't free though, so before we took the plunge, we had to figure out how long it would take us to recoup the money we spent to refinance.

If you plan to move in the next year or so, it may not be worth it to refinance. However, if you plan to stay put long enough for the monthly savings to cover the cost of refinancing, it's worth a closer look.

Before you do anything, run the numbers. The cost of refinancing can be rolled into the loan, so figure out how much you'll be borrowing. On average, you can expect to spend around 1.3% of the loan amount to refinance. For example, if you're refinancing $180,000, it will cost somewhere in the vicinity of $2,340 to do so. Unless you decide to pay that fee upfront, your new mortgage amount will be $182,340 ($180,000 + $2,340). This mortgage calculator can help you determine how much your new mortgage payment will be.

Then, figure out how many months of savings it will take to cover the cost of refinancing. Let's say you're saving $250 per month with the new mortgage. If the cost of refinancing is $2,340, it will take a little over nine months of payments to recoup refinancing fees.

Interest rates may be on the rise, but that doesn't mean you can't save money by refinancing. Check with a mortgage refinance lender you trust to learn more about the lowest rates currently available.