When to Refinance

A woman in her seventies called Clearpoint Credit Counseling Solutions because she could no longer afford her mortgage at a 6.75 percent rate and her house was underwater. The woman wanted to take advantage of the lower interest rates but couldn't refinance because she had no equity in the home.

Karen Metoyer, a housing and credit counselor at Clearpoint, worked with her to determine a budget and what she could afford on her Social Security income. The homeowner thought about taking a reverse mortgage but that wouldn't work either.

It turned out that the homeowner had enough income to qualify for a modification. Metoyer then worked with the woman's bank to get the interest rate on the mortgage lowered from 6.75 percent to 5 percent, which the woman could afford and which allowed her to stay in her home.

Metoyer definitely recommends that you work with a HUD-certified housing counselor, if your house is underwater, rather than try to work out your own modification or refinance. She says that having a third party negotiate the modification or refinance helps give your financial situation credibility, because the banks tend to act more quickly in that case.

With interest rates at historic lows (4.06 percent for a 30-year mortgage and 4.68 percent for a 15-year), there's no reason to wait to look at a refinance or modification, even if your home is underwater. In addition to modification of the interest rate, underwater borrowers might also qualify for the Home Affordable Refinance Program. Taking the first step can be the difference between keeping your home or losing it because you can't afford the payments.

So when should you consider a refinance?

  • Lower Rates to Save Money: If your mortgage interest rate is more than 1 to 2 percent higher than the current mortgage rates, you likely will be able to recoup the costs of the refinance in two to three years. After that, your interest savings is like money in the bank. You can either use the savings from the lower payments to pay off other debt or build a savings account.
  • Convert an Adjustable Rate to a Fixed Rate: If you know that you will be in your home past the time your interest rate will next adjust upward, consider moving to a fixed-rate loan. Interest rates likely will start going up sometime in the next year, so lock in a fixed rate while the rates are at historic lows.
  • Better Credit History: J.G. Keating of Connective Realty in Texas recommends that clients consider a refinance after they've been in a home for two years. "As a result of making timely payments and not creating too many negative scores on their credit," he says, "after the first few years of qualifying for a mortgage they should qualify for a lower rate and, as a result, lower payments."

Mike Winesburg of McKinley Carter Wealth Services in West Virginia sums it up perfectly: "If you can benefit from today's rates you should act. It's entirely too difficult to try to time the bottom. And it's far more likely that rates go up from this point than down."

Generally, you should look for a refinance with zero points to keep your costs as low as possible. Use a website such as Lending Tree that lets banks bid for your business. Then you're able to use those offers to negotiate even lower terms as the mortgage brokers court you.

Take Mary's experience as a lesson: When she refinanced about two years ago, Mary contacted her bank and got an interest rate quote that she thought was high. She completed the application process on Lending Tree and her bank was one of the bidders. When the bank saw that she was considering changing banks, the bank actually bid below everyone. As a result, Mary got an interest rate quote 0.75 percent below the initial offer from the bank, with a promise of lower closing costs than any other bidder.

So when you do decide to refinance, be sure you shop around and encourage banks to bid for your business.

Want to learn more about the different types of mortgages? Here are some guides on AOL Real Estate that might help:


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