What is refinancing and when it makes sense

What you need to know about refinancing your home

You may have heard the term, or seen ads for it, but what's the real deal about refinancing? FOX 5 real estate expert John Adams breaks down the real cost of refinancing to help figure out whether it's right for you.

Ever thought about refinancing your home? You hear the term - maybe see ads for it - but what’s the real deal? Is it a smart money move or a financial trap?

FOX 5 real estate expert John Adams joined Good Day to break down the real cost of refinancing your home in plain English, so you can figure out if it’s right for you.

When does refinancing make sense?

So, what is refinancing? Simply put, it’s like trading in your current home loan for a brand new one, usually with a new bank or even your current one. The main goal? To get a better deal.

When does it make sense? Well, the biggest reason is to snag a lower interest rate. If rates have dropped since you got your mortgage, or your credit score has improved, you could lower your monthly payment and save a bundle over the life of the loan. 

Another good reason is if you want to pay your house off faster. You could switch from a 30-year loan to a 15-year. Your payments might be higher, but you’ll be debt-free sooner and save a ton of interest.  

Some folks also refinance to get rid of PMI - that extra insurance you pay if you put down less than 20%. If your home’s value has increased, refinancing might let you ditch that PMI payment.

When refinancing doesn’t make sense

Refinancing isn’t always a golden ticket. There are costs involved – closing costs, just like when you first bought your house. These can be thousands of dollars, usually about 3% of your new loan amount. 

Determine your break-even point

This brings us to the most important thing you need to figure out: your break-even point. This is how long it takes for the money you save each month (from that lower payment) to cover the upfront closing costs.  If your closing costs are $4,000 and you save $100 monthly, your break-even point is 40 months. If you plan to sell your house before then, you’ll actually lose money on the refinance.

So, refinancing is usually a bad idea if:

• You’re planning to move soon.
• The interest rate drop is tiny, and your monthly savings won’t cover those closing costs for a very, very long time.
• You’re already many years into your mortgage. Starting over with a new 30-year loan, even at a lower rate, could mean you pay way more interest in the long run because you reset the clock.

Choosing cash-out versus rate-and-term

Now, if you decide to go for it, there are two main types:

First, there’s rate-and-term refinancing. Think of this as a tune-up for your mortgage. You’re changing the rate, the loan's length (the term), or both.  You’re not taking any cash out of your house; the loan amount stays pretty much the same.  This is for folks who just want a better deal on their existing mortgage.

Then there’s cash-out refinancing.  With this, you take out a new, bigger mortgage than what you currently owe.  You pay off your old loan, and the extra cash is yours. People use this for big home improvements, consolidating high-interest debts like credit cards, or paying for college.  The upside is you get cash. The downside? Your mortgage is now bigger, your payments are likely higher, and you’re borrowing more against your home.  

Refinancing for future investment

Some savvy investors use cash-out refinancing to buy other properties or make big upgrades to a rental.  This can be a way to grow your wealth, but it’s definitely riskier. You’re taking on more debt, and if that investment doesn’t pan out, your home could be on the line.  Lenders are also much stricter if you’re doing a cash-out on an investment property.

The bottom line

So, what's the real cost of refinancing? It’s not just about the interest rate. It’s about closing costs, your break-even point, how long you’ll stay in your home, and what you plan to do with the money if you take cash out. 

Do your homework, run the numbers, and think about your long-term goals. That way, you’ll know if refinancing is a smart move for your situation.