Refinancing? We Break Down Your Options

It’s no secret that now is a great time for many homeowners to refinance. Whether you’re looking for a lower monthly payment or need to cash out to pay bills or make renovations, it’s the right time to explore whether it makes financial sense for you to take advantage of lower rates.

But some of the details can be confusing, so we’ve decided to explain what they mean to help you make an informed decision. And if you are ready to start crunching numbers, make sure to check out Neat Capital’s Refinance Calculator, which will help you understand the costs involved and potential benefit.

What will refinancing cost me?

When refinancing, there are two main categories of costs, those controlled by the lender, and those controlled by third parties(appraisers, attorney’s, title companies).  Lender related costs arefairly consistent and average between $700 – $1,800. Third-party costs willlargely depend on the municipality, county and state in which the property islocated, so it’s important to understand that depending on your property’slocation will influence  closing costs.

For the majority of states, when refinancing a loan amountof $300,000, for example, you should expect to pay between $2,200 – $3,500 intotal closing costs.

But I saw an ad for a “No Closing Cost” refinance?

If you don’t have the cash to finance your closing, thereare ways the refinancing can be structured to not have to pay those costs outof pocket. But like anything else in life, there are unfortunately no freelunches. Of course, lenders will advertise “No Closing Cost Refinances.” Butfor lenders to be able to finance your costs, they will generally charge you ahigher rate, and take the additional revenue that they earn above what theyneed to produce the loan and deliver that amount back to you at the closingtable in the form of a lender credit, which ultimately works to offset the feesnecessary to close the loan. The result is that you come to closing with nomoney, but leave with a higher rate than you would have achieved if in fact youwere to pay the costs out of pocket, or lumped those costs into the new loanamount.

So how do I decide?

Assuming a hypothetical loan amount of $300,000, you havethree options to consider when deciding which strategy makes the most sense foryour personal situation:.

  1. Bring $3,000 to the closing table
  2. Increase your loan amount by $3,000
  3. Increase your rate enough to create a lendercredit of $3,000

Determining which option is best for you is important andthere are certain things you should consider as you are evaluating theseoptions.  The first thing you’ll want to understand is whether you havethe $3,000 saved and are you comfortable bringing that amount to closing. Ifyou don’t, you’ll be forced to decide between options 2 and 3.  

Although most borrowers tend to select option 2 and lump thecosts into the loan so that they can receive the lowest possible rate, it’s notalways the best strategic option.

By way of example, let’s say that you plan to live in thehome for another 2 years and the interest rates you are being quoted foroption’s 2 and 3 are 4.00% and 4.25% respectively. If you select option 2 withthe lower rate, your loan amount will increase by $3,000, however, you willonly save approximately $1,500 in interest over the 2-year period that you stayin the home. In this scenario you would have walked away from $1,500. Sokeep an eye on what it means for short-term gain over long-term savings. 

If you chose option 3, your loan amount would not increase,but you would have selected the higher rate with no closing costs. Over the2-year period you can expect to pay approximately $1,500 of additional mortgageinterest, but because you didn’t increase your loan amount up front, the truecost of the refinance would be limited to $1,500 of excess interest paid overthe 2-year period.  

If you are staying in the home long term (5-10+ years),option 1 is almost always your optimal choice, option 2 would often be yoursecond best choice, and option 3 should be your last resort. 

That makes sense, I think I’m ready to move forward

Determining whether the total costs to refinance makes sense heavily depends on how long you plan to keep the loan. The time in which it takes to recapture the cost you spend to refinance is called the “break even” period.  If the ultimate goal of a refinance is to save money, you’ll want to determine that your long-term savings exceeds the costs to secure the refinance. Knowing that it can be complex to calculate, Neat Capital created a helpful calculator to help you understand how long it will take you to recover the costs that you would incur to refinance and how much you will ultimately save over the period of time in which you remain in the home. You can explore it here.