Mortgage refinancing is a popular way for consumers to take advantage of interest rates below the levels of their original mortgage or to convert from an adjustable-rate mortgage to a fixed rate that's locked into the term of the new loan. Not only can borrowers reduce their monthly payments, they may even take out cash against the equity of their home. But is it a good idea to re-set the clock on a 30-year mortgage, potentially paying interest over a longer term that increases the total cost of the home?
Pluses of Restarting a 30-year Mortgage
When consumers refinance into a 30-year, fixed-term mortgage, they can profit from lower monthly payments, freeing up cash for other needs while averting interest rate hikes over the long term. With the Fed eyeing increases for the fall, this may be a great opportunity to hop out of an unpredictable ARM. While restarting the 30-year term, however, homeowners need to consider how long they have already paid on the original mortgage (especially in interest), how long they plan on remaining in the home and whether a potential slowdown in accruing equity with a re-set is worth the trade-off in lower monthly payments.
Resets: Potential Disadvantages and Alternatives
By resetting the clock to 30 years, borrowers will definitely pay more interest over the term, adding on to the four or five years in interest they have already paid against the first loan. It really means they will pay 35 years of interest. In the example of re-setting into a 30-year term, the owner is still looking at 360 monthly payments (even if the amount is lower) to retire the new financing.
For those intending to refinance an ARM into a fixed-rate, 30-year term at today's rates, there can be demonstrable savings. For those considering re-setting the clock on a fixed-rate mortgage, a good rule of thumb is to stay the course unless the new rate is at least 2 percent lower than the one they originally accepted. There are also refinancing costs to factor into the equation.
The Shorter Term Option
If the savings in the total cost of the mortgage outweigh the size of currently monthly payments, re-setting to a shorter term and/or paying down the principal can make refinancing a solid option. Refinancing into a 15-year fixed-rate term, for example, effectively creates a 20-year total term on paying off the house. And shorter terms typically attract more favorable interest rates.
Calculate Potential Benefits in Resetting the Clock
LendingTree's refinance calculator can help borrowers determine the amount of time they'll need to remain in their home after refinancing to break even and cover refinancing costs.
The calculator compiles data from the current mortgage:
- Property Value
- Loan Amount
- Loan Start Date
- Loan Term
- Interest Rate
Then, the borrower adds the same five items from the refinanced mortgage along with the time they plan to remain in the home. The calculator crunches the numbers and predicts:
- New Monthly Payment
- Cost Savings Over the Life of the Mortgage
- Increases in the Term of the Mortgage
The calculator also reports mortgage options for 15- and 30-year terms. The tool requires the user to input their credit score. LendingTree provides consumers free credit scores (the service won't impact your score).
Do your homework with the calculator, then get free refinancing offers from competing lenders.