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What to know about mortgage refinancing

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Refinancing a mortgage typically costs 2% to 3% of the loan amount and includes origination, appraisal, credit report, and underwriting fees.

How the Fed impacts mortgage rates

Many people think changes in the Federal Reserve's interest rates directly impact mortgages. While the Fed's changes to interest rates have some impact on mortgage rates, the effect isn't quite as direct as you might think.

The Fed's announcement has to do with the federal funds rate or the interest rate at which banks loan each other money. The interest rates for some types of debt (such as credit cards and home equity lines of credit) tend to move up and down along with the federal funds rate. However, mortgages aren't tied to the federal funds rate. They're influenced by several factors, including inflation, job creation, long-term bond rates, and the overall health of the economy.

Essentially, if you want to know what mortgage rates are at any given time, your bank is a great place to find out.

When is a good time to refinance a mortgage?

The best time to refinance is usually when you can get a lower interest rate1 than the one available on your existing loan. However, the decision isn't always so simple.

Refinancing your mortgage means paying off your existing loan and replacing it with a new one. That new mortgage will come with fees, paperwork, and possibly extending the number of years you'll be making loan payments. Here's a detailed look at each of these three considerations.

1. Mortgage refinancing closing costs

Refinancing your mortgage into a lower interest rate may reduce your monthly payment, but there are other costs to consider.

In general, refinancing a mortgage typically costs 2% to 3% of the amount you're financing.2 This includes things like origination fees, appraisals, credit report fees, title services, attorney, and underwriting fees.

A good rule of thumb when you're considering a mortgage refinance is to calculate how long it will take to recoup the cost of refinancing.3 For example, say refinancing would cost $5,000 and would reduce your mortgage payment by $150 per month. It would take you nearly three years (34 months) to recoup the cost of refinancing. If you're not planning on staying in the home that long, the cost of refinancing would wipe out any potential savings.

2. Mortgage refinancing savings

While there are upfront costs to refinancing, there's also an upside: the potential for significant monthly savings. Let's say you stand to save $150/month by refinancing and you plan to stay in your home until the recoup mark. For the remainder of your loan period you'd be saving $1800/year in mortgage payments. That's money you can use to pay off other debt or use for other necessities, like paying for your child's college education.

3. Debt consolidation and refinancing

Taking advantage of lower mortgage interest rates doesn't just mean lowering the interest rate you pay on your mortgage. Through a cash-out refinance, you can also consolidate higher-interest debt (like credit card debt) and benefit from significantly lower mortgage interest rates.

Here's how: Let's say you have a significant amount of equity in your home, because you've owned it for a few years and home prices have appreciated. With a cash-out refinance, you not only lock into lower interest rates for your mortgage, you can tap into some of the equity you've built it up (that's the cash-out part) and use it pay off higher-interest consumer debt.

Depending on how much cash you take out and just how much lower your new mortgage rate is, your mortgage payment may go down, stay the same, or go up slightly. But even if your monthly mortgage payment does go up, your total monthly debt payments will go down because the amount you're paying on high-interest debt will go down — or even be eliminated.

4. Mortgage refinancing paperwork

If you've been making your mortgage payments on time, you may think that refinancing will be a breeze, but it's not always so simple.

Whether you stick with the same lender or use another one, you may have to go through many of the same documentation and verification requirements that you went through when you first purchased your home, such as proving your income, allowing the lender to check your credit report, and getting your home appraised.4

5. Extending your mortgage term

Closing costs aren't the only cost of refinancing to factor in. You should also consider whether you're extending your loan term, which might lower your monthly payment but cost you more in the long run.5

For example, say you have 15 years left on your 30-year fixed-rate mortgage. If you refinance into a new 30-year fixed-rate loan, you'll essentially extend the term of your loan and pay more interest over the life of your mortgage as a result.

On the other hand, if your main goal is to lower your monthly payment due to a drop in income or an increase in other expenses (like getting your kids through college), locking in to a lower interest rate and extending the term of your mortgage may be the most effective way to reach your financial goals.

When mortgage rates drop, it can be an excellent time to refinance. Just make sure you consider the full cost involved. Our Refinance Calculator can help you run the numbers to ensure your interest rate reduction will generate enough savings to offset the cost of refinancing. If you need more help, make an appointment to talk to your local banker or mortgage loan originator near you.

Important Disclosure Information

This content is general in nature and does not constitute legal, tax, accounting, financial or investment advice. You are encouraged to consult with competent legal, tax, accounting, financial or investment professionals based on your specific circumstances. We do not make any warranties as to accuracy or completeness of this information, do not endorse any third-party companies, products, or services described here, and take no liability for your use of this information.

  1. Investopedia, “When (and When Not) to Refinance Your Mortgage," accessed March 31, 2020. Back
  2. Freddie Mac, “Determining Costs," accessed March 31, 2020. Back
  3. CNBC, “Mortgage rates are falling – here's how to tell if you could save money by refinancing," accessed March 31, 2020. Back
  4. Freddie Mac, “Freddie Mac Refinance Programs," updated August 2018, accessed March 31, 2020. Back
  5. Business Insider, “4 Times Paying Off Your Mortgage Early Could Actually Cost You Extra," accessed March 31, 2020. Back