Math - Refi a Home Loan

Hi Friends,

I had a good discussion last weekend with my brother about refinancing houses and the current interest rates on home mortgages. I shared the following with him:

It is certainly true that interest rates are perhaps at their lowest rates in history in the US, but with that comes an expensive house (carries risk of decline on a new purchase) and the risk that rates could go even lower. Not to get too far into the weeds, but a negative Federal Funds Rate could push rates even lower than they currently are (a tool still in the Fed’s bag), and its unlikely the Fed will be raising rates with the economy struggling and high unemployment, mostly due to self imposed restrictions around the coronavirus.

But refinancing your home loan turns into a math equation. The equation is the cost of the refinance (points, origination fees, title charges, etc) divided by the savings in interest per month (varies each month as principal balance declines but use an average). That will give you the number of months before your savings have passed the costs to refinance. No one knows the future, but if the refinance pays for itself in fewer years than you expect to stay in the house, then it probably makes long term sense to do the refi. As an example, if a refi costs you $4,000 and you are saving $100 in interest each month on the lower rate, then your break even point is 40 months, so about 3.3 years. If you expect to live there longer, then the refi should save money over the long run. If you sell sooner, you should have kept the higher rate loan.

A lot of lenders allow you to roll the refinance fees into the new loan, but that is still costing you the same as if you had paid it out of pocket, its just that you might not feel it as bad.

Hope this information helps someone on here!

Brian