Homebuyers

5 Reasons to Refinance Your Mortgage Even When Rates Are Higher

When most people think about refinancing, a lower mortgage rate usually comes to mind first. However, a lower rate isn’t the only reason to replace your existing mortgage with a new one. A refinance can also help address a specific financial or personal need.

“This strategy can get an ex-spouse off a loan, allow you to switch from an adjustable-rate mortgage before it resets, or help you get rid of private mortgage insurance (PMI),” said Alex Rodino, a real estate agent at Keller Williams Coastal Area Partners and founder of The ARC Platform in Savannah, Ga. 

Depending on your circumstances, refinancing in a higher-rate environment could still make sense. Here are five reasons to pursue a mortgage refinance even when today’s rates are higher than your current rate.

1. You want to consolidate debt

If you’re carrying a lot of high-interest credit card debt, a cash-out refinance is worth exploring. So, what is a cash-out refinance? It can allow you to replace your current mortgage with a larger loan and pocket the difference between your old and new loan in cash.

You can then use the cash to pay down your credit card balances. Before proceeding, compare the refinance rate, closing costs, new loan term, and total projected interest with the cost of keeping and repaying the credit card debt. A cash-out refinance also converts unsecured credit card debt into debt secured by your home.

Devin Henry, president of Nomadic Real Estate in Washington, D.C., worked with a client who had $30,000 in debt spread across three credit cards, each charging more than 22% interest. Though Henry wasn’t the client’s lender or loan officer, he helped the client evaluate the real estate and financial implications of using home equity to address the debt.

“In order to help her remove this debt and free up nearly $500 per month, we decided it made sense to move forward with a cash-out refinance,” said Henry.

2. You have a large upcoming expense

A cash-out refinance may also provide funds for a major expense, such as college tuition, medical bills, or a home renovation.

“I worked with a client who had a $40,000 tuition bill and personal loan offer with an 11% interest rate,” said Henry. “By using her home equity instead of the personal loan, she was able to cut her interest rate by nearly half.”

However, that doesn’t mean refinancing is always the best way to pay for a significant expense. The rate on the new mortgage, closing costs, repayment period, and effect on the homeowner’s equity all belong in the calculation.

“It’s important to do the calculations first to make sure refinancing your mortgage is actually a good choice,” said Henry.

3. You don’t like the unpredictability of an adjustable-rate mortgage

If you originally took out an adjustable-rate mortgage and you’re worried about what your payments may look like in the future, refinancing may allow you to switch to a fixed-rate mortgage.

Your rate and monthly principal and interest payment would then remain the same for the life of the new loan.

How long the homeowner expects to remain in the home is another important consideration.

“I’ve told clients not to switch to a fixed-rate loan because they expect to move within two years. The upfront costs of refinancing may not be worth it,” said Henry.

4. You want to remove mortgage insurance

You may be able to cancel mortgage insurance on a Conventional loan once you meet your lender’s requirements, without refinancing. However, refinancing might still be useful in some situations.

For example, some homeowners with Federal Housing Administration loans (FHA) must pay annual mortgage insurance for the life of the loan. Refinancing into a Conventional loan may allow them to eliminate mortgage insurance if they have enough equity and meet the lender’s requirements.

Homeowners should compare the potential mortgage insurance savings with the new rate, monthly payment, and refinance costs. Eliminating mortgage insurance may not reduce the overall payment if the new mortgage carries a substantially higher rate.

5. You need to change borrowers

Due to a life event, such as a divorce, you may want to remove your co-borrower from the mortgage. A refinance can allow you to do so. 

“A divorce decree does not remove anyone from a mortgage,” said Rodino. “Neither does a quitclaim deed. Those deal with ownership. A refinance is the common fix.”

In other words, removing someone from the deed or getting a divorce decree doesn’t necessarily eliminate that person’s responsibility for the mortgage. Refinancing in your name alone is one common way to remove a co-borrower, although the available options depend on the loan and mortgage servicer.

You must qualify using your own credit, income, debts, and other financial information.

How much does it cost to refinance a mortgage?

Refinance closing costs typically range from 2% to 6% of the new loan amount, depending on the lender, location, and loan.

A traditional break-even calculation can help when refinancing will lower the monthly mortgage payment. Divide the total refinance costs by the expected monthly savings to estimate how many months it could take to recover those costs.

The calculation is less useful when the refinance carries a higher rate or payment. In that situation, homeowners should compare the new payment, closing costs, loan term, total projected interest, and effect on their available equity.

A mortgage professional can provide a loan estimate showing the proposed rate, payment, and closing costs. Reviewing those figures alongside the existing mortgage can help homeowners decide whether the financial or personal benefit justifies the expense.