With mortgage rates hitting new record lows twelve times this year, millions of people have already refinanced their mortgages and millions more could save by doing so.
Use Money’s refinance calculator to determine whether refinancing is right for you.
How Money’s Refinance Calculator Works
To give you an estimate of how much you could save by refinancing, our calculator allows you to enter details about your current mortgage and your new home loan.
Reason for refinancing – Part of what makes Money’s refinance calculator unique is that it asks you to input your goals for refinancing in the first place. Refinancing can help you lower your monthly payment, adjust your loan term, or take cash out, but generally not all three. Consider your needs carefully and be aware that some refinance options may have more stringent qualification requirements than others. Also note that your reason for refinancing will alter the information fields the calculator requires you to fill out, as well as the calculator’s output — your monthly savings and total savings.
Loan amount – Refinancing entails replacing your current loan with a new mortgage featuring a new interest rate and loan term. Usually, that means simply carrying over your existing loan balance. Borrowers who qualify can sometimes refinance to a larger loan amount, tapping the home equity they’ve built over time to take money out of their mortgage. This is called a cash-out refinance.
Mortgage rate – Your mortgage rate is the interest rate you will pay for the loan. If you aim to reduce your monthly payments by refinancing, the surest way to do this is to lower your interest rate. Money’s mortgage refinance calculator will auto-populate with an average mortgage rate based on the information you enter, but you can override this to see how rate changes could impact your costs. Most experts recommend refinancing if you can lower your rate by a full percentage point — for example from 4% to 3%.
Loan type – There are several different types of mortgages, but the two main categories are conventional loans and government-backed loans. Conventional loans are simply those which are not insured by the federal government, and they can be conforming or non-conforming. Conforming loans meet the standards for purchase set by Fannie Mae and Freddie Mac, specifically regarding loan amount. Non-conforming loans, such as jumbo loans, exceed the loan limits set by Fannie and Freddie — $548,250 for single-family, one-unit properties in most of the U.S. as of 2021, but more expensive markets have higher limits. It’s generally harder to qualify for conventional loans, whether conforming or not.
Government-backed loans, on the other hand, are neither conforming nor conventional. These loans are issued by banks but insured by one of three government agencies: the Federal Housing Administration (FHA) the US Department of Agriculture (USDA) or the Department of Veteran Affairs (VA). Since government-backed loans are insured by the federal government, they carry less risk for lenders, so they tend to feature lower interest rates and low or no down payment requirements. However, each of these loans has specific qualification requirements that apply to the home, the borrower, or both.
Another important classification is whether the loan features an adjustable or a fixed rate. Adjustable-rate mortgages (ARMs) typically have lower interest rates than fixed-rate mortgages, but your monthly payments could fluctuate after the loan’s initial fixed-rate period. In contrast, fixed-rate mortgages tend to have higher interest rates and lower monthly payments, but you pay more interest over a longer loan term.
Mortgage term – This is the amount of time you’ll pay for the loan until you fully own the home (assuming you don’t make extra payments). Thirty-years mortgages are by far the most common in America. Most lenders also offer loans with 15-year terms and sometimes less. If you refinanced to a longer term, you would be stretching out your payments for a longer period, which would lead you to pay more interest over the life of the loan but have lower monthly payments.
Conversely, and more commonly, if you refinanced to a shorter loan term, you would be increasing your monthly payment amount but decreasing your total interest, as you’ll be spreading the loan balance over a shorter period. Remember that by refinancing you are resetting your loan term. So if you take out another 30-year loan, you will be paying for 30-years from the refinance date.
Year or month of origination – This is when you took out your original mortgage. If you’re well into your current mortgage and have built considerable equity in your home you may end up paying more interest in the long run by refinancing, even if your monthly payments are lower.
Credit score – Your credit score is a key factor in determining your mortgage rate. Credit score requirements vary by lender and loan type, yet borrowers generally need scores of 740 or above to qualify for the most favorable rates. If your credit has improved since you took out your first mortgage, refinancing could help you get a lower interest rate.
Location – This field will automatically populate based on your IP address. However, you can override this setting by manually entering your zip code. Keep in mind that lenders offer different rates based on your home’s location, so these can vary based on your state and county.
While our calculator can give you an idea of your potential refinance savings, you’ll still have to do the legwork. Since lenders offer different rates based on your location, credit score, loan amount and type, etc., shopping around is a surefire way to save on your mortgage refinance. In fact, according to Freddie Mac, borrowers who get at least five rate quotes can save around 0.166% on their rate on average or about $1,435 on a $250,000 loan by getting one additional quote.
If you don’t know where to start, check out our research on the Best Mortgage Lenders of 2020.
Interest Rates in 2020
The ongoing COVID-19 pandemic has caused rates to drop nearly a full percentage point since the end of last year, leading to a surge in mortgage refinance applications. In fact, according to a report by mortgage data company Black Knight, in the third quarter refinance originations rose by 25% over the previous quarter. If the trend keeps up, 2020 could set a new record for refinancing. And these numbers are expected to remain strong well into the future.
If you’re waiting to see if rates will drop lower, remember that it’s impossible to time the market. Everything from the results of the 2020 presidential election to the prospect of a COVID vaccine has impacted interest rates. Instead of gambling on what may happen tomorrow, think about how refinancing could benefit your current mortgage situation. If you’re ready to take the plunge, take advantage of the low interest rate environment today by comparing offers from different lenders.
You may want to opt for a rate lock with a float down option if you’re afraid to miss out on additional savings. That way, if interest rates increased, you’d still get the rate you were originally quoted, but if they drop any lower while your loan is being processed, you’d get the lowest possible rate. Float downs can cost as much as 1% of the loan amount, so do the math to make sure it will pay off.
Should I Refinance?
Depending on your needs, refinancing could make sense if it can achieve one of three things: lowering your monthly payment, switching to a fixed-rate mortgage from an adjustable-rate mortgage, getting you out of debt faster, or providing the cash you need now.
Lower Your Monthly Payment
If you can qualify for a lower rate than you are currently paying, your monthly payment will go down. In general, this move makes the most sense if you can lower your rate by at least one percentage point. To qualify for the lowest possible interest rate, you’ll generally need to have a credit score of at least 740. Experts also suggest you shop around and get quotes from three to five lenders on the same day to compare offers. Make sure to keep track of offers, taking down details such as rate, lender fees, closing costs, and penalties.
Switch From an ARM to Fixed-Rate Mortgage or Vice Versa
With a fixed-rate mortgage, your interest rate and monthly mortgage payments will remain the same for the life of the loan (i.e. until you sell, refinance or finish paying). Due to that predictability, fixed-rate mortgages are the best option for most borrowers — especially when rates are low and if they plan to stay in their home for a long time.
On the other hand, rates on adjustable-rate mortgages fluctuate. Rates on these loans generally start lower and have an initial fixed period of five, seven, or ten years. After which they reset based on the current market rates. Once rates begin to fluctuate they could increase considerably. That means your monthly mortgage payments may be affordable at the onset but become unsustainable over time. However, ARMs can work for borrowers who plan to move before the interest rate resets.
Pay Off Your Mortgage Faster
If you want to own your home outright as soon as possible, you can shorten your loan term, for example, from a 30-year loan to a 15-year. Spreading your loan balance over a shorter loan term will increase your monthly payments, but mean paying off your mortgage faster. That also means you’ll pay less interest over your loan term, which could save a considerable amount of money. Rates are also generally lower for 15-year loans than for 30-years. This option is best for those who have few long-term financial obligations and, of course, earn enough on a monthly basis to cover the higher loan amount.
Get Out of Paying Mortgage Insurance
If you made a down payment smaller than 20% of your home’s purchase price, you’re likely paying mortgage insurance. On conventional loans, private mortgage insurance (PMI)should be automatically canceled once you’ve reached 80% equity in your home. However, with an FHA loan, you are required to pay mortgage insurance premiums (MIP) for the life of the loan. If you have enough equity and can qualify, it can pay to refinance to a conventional loan. The FHA mortgage insurance premium ranges from 0.45% to 1.05% of the loan amount each year.
Take Cash Out
Another reason homeowners choose to refinance is to tap into their home’s equity for cash. This can be done with a cash-out refinance, which allows borrowers to increase their loan amount and take out the difference between the current mortgage and the new one. Cash-out refinance loans may be harder to qualify for, as most banks will require you to keep at least 20% equity in the home and to have a higher credit score. Interest rates on cash-out refinance loans also tend to be higher. Most borrowers opt for this type of refinancing to cover home renovation expenses or to consolidate debt.
When Refinancing is a Bad Idea
Refinancing may not make sense in every scenario. If the cost of the new loan will exceed how much you’d save by refinancing, if your financial situation is uncertain, or if your credit score has taken a dip, refinancing may not be the smartest choice.
If You’re Planning to Move Soon
If you’re planning to sell in the next few years, what you save each month by refinancing may not exceed what it will cost you to refinance your loan.
To find out your new loan’s break-even point, add up the closing costs, which can include appraisal fees, title and credit report fees, and origination fees — around 1% of the loan amount — and divide them by the amount you’d be saving per month with the new payment. According to Freddie Mac, the average closing costs on a mortgage refinance is around $5,000. So if you’re planning to stay in the home for less time than it would take you to get back what you would spend on closing costs, refinancing may not be a good deal.
If You’re Credit Score Has Gone Down
When you apply for a refinance loan, lenders determine your creditworthiness in part by looking at your credit score. The higher your credit score, the better your chances of snagging a low rate. Again, to get the most favorable refinance rates you’ll generally need a credit score of 740 or above. If your credit score is lower than it was when you bought your home, you may not qualify for as low a rate as you expect. If your score is low enough you may want to work on improving your credit before refinancing.
I Want to Refinance, How do I Qualify?
When applying for a new mortgage or refinance loan, there are three main factors that will impact your rates: debt-to-income ratio, credit score, and loan-to-value ratio.
Lenders use your FICO credit scores to help determine your mortgage rate. FICO issues scores ranging from 300 to 850, with higher scores being the most desirable. According to FICO, a good score is considered to be in the 670-739 range.
- <580: Poor
- 580-669: Fair
- 670-739: Good
- 740-799: Very good
- 800+: Exceptional
Although credit score requirements will vary by lender and loan type, a higher score will always mean a better rate. If you feel your credit needs improvement, there are ways to gradually improve your score, such as checking your report for errors and getting them corrected. Check out all three free copies of your annual credit reports from annualcreditreport.com.
Ultimately, the best way to improve your score is to develop good long-term credit habits, like paying your bills on time and keeping tabs on your credit utilization rate. Being patient is important.
|Mortgage Refinance Glossary|
|Adjustable-rate mortgage (ARM)||A type of mortgage that features a variable interest rate that is typically lower than that of fixed-rate mortgages, but can increase or decrease over time. Most ARMs start with a fixed period of five to ten years.|
|Amortization||A process for paying off debt over time, with a portion of each payment going toward your mortgage principal and a portion toward interest. It means you pay more interest at the start of a mortgage and more principal at the end, as your balance goes down.|
|Cash-out refinance||A type of refinance loan where you can withdraw a lump-sum cash amount from your home’s equity.|
|Debt-to-income ratio||All your monthly debt payments divided by your gross monthly income.|
|Down payment||A lump sum payment made upfront to cover a percentage of the mortgage value.|
|Equity||The share of your home you own outright, through your down payment and monthly principal payments.|
|Fixed-rate mortgage||A type of mortgage that features the same interest rate and monthly payment for the entire loan term.|
|Interest rate||The rate charged on your mortgage loan based on your creditworthiness and other factors such as the loan type and loan amount. Mortgage interest payments are calculated monthly.|
|Loan term||The duration of a loan, in this case your mortgage. Most mortgages have 30-year, or sometimes 15-year, terms. Some lenders offer other options.|
|Loan-to-value ratio||The amount of money you want to borrow divided by your home’s appraised value.|
|Pre-approval||A written statement from a lender saying that you’ve qualified for a home loan and specifying how much money the lender will allow you to borrow. It’s a more official estimate of what you could borrow, without entering into a contract, than a pre-qualification. This requires a hard credit inquiry (one that can affect your interest rate).|
|Pre-qualification||A lenders estimate of how much you’ll be able to borrow based on self-reported information about your income and credit, typically a ballpark estimate. This is considered a soft credit inquiry, so it won’t dent your credit score).|
|Rate-and-term refinance||A type of refinance loan that can lower your mortgage interest rate or shorten or extend the loan term.|
|Refinancing||A transaction that replaces your current mortgage with a new one featuring a different term, interest rate, or loan amount. This is done to either change the rate or term of the loan to lower payments, get out of debt quicker, or to pull cash out of the equity accrued in the home.|