The Mortgage Reports Contributor
November 16, 2021 – 8 min read
Refinancing your home is personal
For many homeowners, it’s worth refinancing to save $100 a month. Whether that’s true for you depends on a number of factors.
Do you need the extra wiggle room in your budget? Will you stay in the home long enough to “break even” with the cost of refinancing?
Or can you refinance to accomplish another goal, like cashing out your home equity or paying off your current loan early? In this case, the monthly savings might not matter.
Here’s how you can decide if refinancing your home is worth it, even if you’re only saving $100 a month.
The refinance–to–break–even rule of thumb
Refinancing your mortgage, in general, should save you money over the life of the loan to be truly worth it.
While every homeowner’s situation is unique, one simple way to decide when to refinance is by calculating your “break–even point” – the point at which your refinance savings outweigh your closing costs.
To break even and start seeing real savings, you’ll typically need to stay in the home at least a few years after refinancing.
“But being able to know how long you will be in a home isn’t easy,” says Ralph DiBugnara, founder of Home Qualified.
As a simpler alternative, he suggests “You should aim to recoup your costs in the first 24 months of the loan.”
DiBugnara explains: “Say you end up saving $300 per month after refinancing, but your closing costs totaled $6,000. Here, you would recoup your costs in 20 months. Then, every month after that your savings would continue to multiply.”
Is it worth refinancing to save $100 a month?
Refinancing to save $100 a month is worth it when you plan on keeping the loan long enough to cover the cost of refinancing.
Let’s say you check today’s refinance rates, and you estimate a refinance could save you $100 on your monthly mortgage payments.
Divide your closing costs by $100 – or whatever your monthly savings would be – to determine how many months it will take you to break even. If you plan on keeping your home loan for longer, then refinancing to save $100 a month will be worth it for most homeowners.
Closing costs vs. refinance savings
Consider that your refinance closing costs will likely total between 2% to 5% of your new loan’s principal balance. On a $200,000 loan balance, that’s a minimum of $4,000 out of pocket for closing costs.
Saving $100 per month, it would take you 40 months – more than 3 years – to recoup your closing costs.
So a refinance might be worth it if you plan to stay in the home for 4 years or more. But if not, refinancing would likely cost you more than you’d save.
Negotiate for low or no closing costs
However, the 2% to 5% closing cost estimate isn’t set in stone.
Negotiate with your lender for a no–closing–cost refinance. Your rate might be slightly higher than market rates, but still much lower than your current rate.
With the right deal, you could start saving within months, not years.
Other good reasons to refinance: It’s not always about the savings
Not everyone has the same financial circumstances, and a refi may be worth it even if you don’t pocket an extra $100 per month or more.
Lower your total interest rate
Erik Wright, owner of New Horizon Home Buyers, suggests another way to think about refinancing.
“If your goal is to save on monthly payments,” he says, “I would suggest refinancing if it will lower your interest rate by 1 percent or more.”
Let’s say you decide to refinance a $200,000 loan balance. Your current mortgage rate is 3.75% and your new rate is 2.75% – so this would lower your total interest rate by 1 percentage point.
Here’s how the math works out:
- Loan balance: $200,000
- Current mortgage rate: 3.75%
- Current monthly payment: $1,200
- New mortgage rate: 2.75%
- New monthly payment*: $845
- Monthly savings: $355
*Refinance savings calculated using The Mortgage Reports refinance calculator. Your own rate and savings will vary.
Assuming your closing costs totaled $6,000 (3% of the loan amount), your new home loan would break even in about a year and a half.
So if you planned to stay in the home for at least two years or more, this refinance would probably be worth it.
However, the 1% rule doesn’t apply to everyone.
Someone with a very low loan balance, say $100,000, might not refinance since dollars saved won’t be that high. And someone with an $800,000 loan balance might want to refinance for just a 0.25% reduction.
Tap your home equity with a cash–out refinance
“Some people who have significant equity built up in their home can use a refi to get cash out,” says Wright.
“Many seek a cash–out refi not necessarily to save money but to fund a costly home improvement project, pay for tuition, make an investment, finance a wedding, or pay down other debts, such as high–interest credit card debt.”
Refinancing might be worth it if you can take cash out, shorten your loan term, or switch from an ARM to an FRM – even if your monthly payment doesn’t go down.
Shorten your loan term
Alternatively, you can refinance to a shorter term loan and save thousands in interest payments in the long run.
“For instance, let’s say you have 25 years left on your 30–year mortgage. [It] has a $300,000 balance, 3.5% percent interest rate, and a monthly payment of $1,347,” DiBugnara says.
“You refinance into a 15–year mortgage at 2.5% percent. Your new monthly payment will be $2,000. But it will only cost you $360,066 total to pay off your loan instead of $450,561 if you didn’t refinance.
“That’s a savings of almost $90,000. Plus, you’ve shaved 10 years off of the length of the loan,” he explains.
Enjoy consistent monthly mortgage payments
If you currently have an 30–year adjustable–rate mortgage, refinancing to a new 30–year fixed–rate mortgage loan can provide peace of mind in the form of consistent monthly mortgage payment amounts that will no longer fluctuate from year to year.
Eliminate private mortgage insurance
Your potential savings also depend on whether you currently pay private mortgage insurance (PMI) or FHA mortgage insurance premium.
If you have at least 20% equity when you refinance, you might be able to eliminate PMI or MIP and increase your savings.
“If the value of your home has gone up so that you have at least 20 percent equity based on the appraised value and the current balance on your mortgage, you may be able to drop PMI payments when you refinance, which can trigger even more in monthly savings,” Wright says.
Should you choose a no–closing–cost refinance?
If you don’t have the upfront cash to refinance but you can score a much lower rate, you might consider rolling closing costs into your loan balance to avoid the out–of–pocket expense.
That means you won’t pay upfront, but you will make interest payments on your closing costs – which end up costing you a lot more in the long run.
Another option is a no–closing–cost refinance.
No–closing–cost refinancing means your lender covers part or all of your closing costs. In return, you pay a higher–than–market interest rate. This higher interest rate is often lower than your current rate, though.
Pros and cons of no–closing–cost refinancing
Taking the higher rate costs you more in the long run than paying closing costs yourself. But you get a no–risk refinance – meaning even if you sell or refinance again in 3 months, nothing is lost.
However, if you spend $4,000 buying down to a low rate, and then you have to sell your home in 6–12 months, that money is gone forever.
For this reason, many people opt for a slightly higher rate and are free to refinance every 3 months if rates keep dropping.
Others want the lowest rate humanly possible.
Evaluate your refinance goals
“You have to look at what you are saving monthly versus over the long term,” suggests DiBugnara.
“If you need a short–term loan because you are moving soon, it may make sense to pay more in interest and not add to your loan balance,” he says.
“But if you will remain in your home for a longer period of time, it almost always makes more sense to take the lower interest rate and either roll the closing costs into the loan balance or pay these closing costs upfront at closing.”
Should you pay upfront or finance the closing costs?
Because borrowing is extremely cheap right now, “I almost always encourage my clients to roll the closing costs into the balance,” says David Dye, founder and CEO of GoldView Realty.
“I would much rather my clients keep their cash as reserves, in case rough times hit, than spend it paying down closing costs. The security of having an extra month or two of reserves is often much better.”
How your mortgage refinance rate is determined
The amount you can save by refinancing your mortgage will hinge on several factors, including your new interest rate, your credit score, and your loan–to–value ratio (LTV).
“Interest rates are unique to each borrower’s situation. They are determined mainly by two factors: credit score and loan–to–value,” says Dye.
A higher credit score typically earns you a lower mortgage rate. That’s especially true if you use a conventional loan.
As for LTV, the lower yours is – meaning, the more home equity you have – the lower your new home loan’s interest rate is likely to be.
How to decide if a mortgage refinance is worth it for you
Ultimately, the decision to refinance your current loan or not is up to you. To help you make a more informed choice, it pays to determine:
- How much lower your new interest rate will be
- How much you will save each month
- How much you will save over the life of your new loan
- How long you plan to remain in your home
- Your current home value
- Future life goals and financial needs
“In most cases, refinancing with a significantly lower interest rate gives you more positive options. It creates a stronger position that allows you to better achieve your goals, whether they are to get cash out of your home, lower your monthly payment, or pay it off faster,” adds Wright.
Dye says the two most common objections to refinancing are the costs involved and the idea that your loan starts over.
“But don’t forget that, if you lack the upfront money for closing costs, you may be able to roll these expenses into your loan,” he says.
“And some lenders will allow you to keep your loan at the same term. For instance, if you have 24 years left, your lender may agree to start your new loan with 24 years remaining.”
Remember, you don’t have to refinance with your current mortgage lender.
If you can find a lender offering lower rates, better loan terms, or ideally both, you’re free to refinance with a different company.
That’s why it always pays to shop around and find your best offer when you refinance.
Check today’s best mortgage refinance rates
Refinancing is worth it when your savings are greater than the costs.
Today’s mortgage rates are still near historic lows, but low rates may not be around forever. Now is a good time to think about refinancing into a new home loan, even if it’s just to save $100 a month.