What is the best way to proceed? It depends on your goals.
Long or Short Term Hold
Planning on holding the loan long term? There are a few things to consider. Considering refinancing again soon? There are others.
Why would you refinance soon after refinancing now? Rates have been declining since the Federal Reserve’s rate dropped to just .25%. Many feel 30-year conventional rates may dip as low as 1.5%! The question is when. The answer is, if it happens, soon. The Fed’s rate will remain at .25%, per them, until at least 2022 and likely longer. In the next few months to a year, perhaps a little longer, we could see rates that low.
Closing Costs – Three Ways to Pay
In cash, add them to the loan amount, zero cost loan (costs added to the interest rate).
Holding the Loan to Term – If you are planning to keep the new loan to term, your best bet is to pay the costs cash and write them off your taxes (check with your CPA to be sure). If you add the costs to the loan amount or to the interest rate you pay interest on that block of money throughout the term you have that loan. The actual difference in cost over time if you add it to the loan amount vs. adding it to the rate is about 20% (you will pay 20% more interest on the closing costs if you embed them into the rate).
Refinance Soon if Rates Drop – If you are planning to refinance soon, within the next 6 months to 2 years, you are better off with a zero cost loan, embedding the costs into the interest rate. If you pay it upfront or add it to the loan, once you retire that loan you pay the entire amount, plus any interest you already paid. If you embed it into the rate, you only pay for the time the loan has been active. The gamble is if you don’t refinance you will pay the additional 20% over time. So the consideration is to risk paying additional interest over 30 years on those closing costs in the event you do refinance soon saving the bulk of those costs.
If you plan to hold onto your new loan to term, your best bet is to pay the costs in cash, 2nd to adding it to the loan amount. Adding it to the rate will only cost you more long term.
If you are betting on rates dropping enough that you would want to refinance again soon,best bet is to do a zero-cost loan and embed the costs into the interest rate. This way, if you do retire the loan early, you save the bulk of those costs. If you end up keeping it to term, the additional 20% interest on just those closing costs is likely worth the risk.
Buying Down a Rate
no matter what rate you qualify for, you can usually get a lower one by paying extra for it. It is called “buying down” the rate. Entertaining this scenario also depends on how long you plan to keep a loan.
If you are planning to refinance quickly, it makes no sense to buy down the rate. When you refinance you will lose the extra money you paid to get the lower rate.
If you plan to keep the loan, not necessarily to term but for a good period of time, it may be worth doing. You need to calculate your break even point. You divide the monthly savings by the money you paid for the lower rate and find out how many months until you break even. For instance, if paying $4000 extra lowers your rate from 2.5% to 2.25%, and that .25% less saves you $1000 per year, it would take you 4 years to break even. You would save money throughout the loan from that point on. If you retired the loan, in this case, prior to 4 years you would lose a percentage of it.
Consult a Professional
our focus is to help you determine the best way to approach your refinance. Please reach out and let us do the math.