When deciding whether to refinance or not, be sure to calculate the break-even point. This is the point at which you pay yourself back for the cost of refinancing your property and where you begin to save money on the loan. Knowing the break-even point helps you decide if refinancing is a smart financial option.
To find the break-even point on your refinancing deal, look at how much refinancing costs you in addition to how much you'll save on your monthly payments. For example, say your home is worth $300,000, and you want a 15-year fixed-rate mortgage for the remaining loan principal balance of $150,000. Perhaps current interest rates are 3.125%. Plugging this information into the refinance costs calculator, you can see that the cost to refinance your home would be $4,280.
Let's say your current mortgage payment is $1,120 a month. Under the terms of your refinancing offer, your new monthly mortgage payment is about $1,045. That equals a savings of $75 a month.
To find your breakeven point, divide your total refinancing costs ($4,280) by your monthly savings ($75). This tells you how many months it will take you to break even on the expense of refinancing. In this example, you'll end up breaking even on the refinancing cost after 57 months, or a little under five years.
Total refinancing costs / Monthly savings = #Months it will take you to break even
That means if you plan on living in your home for more than five years, you could end up saving thousands of dollars over the term of the loan. You'd save both on your monthly payments and the amount of interest you'll end up paying over the lifetime of the loan. If you plan on moving in the next few years, though, then refinancing may not be your best option. You could end up losing money.
Comparing your future plans and your break-even point will help you decide whether refinancing is the best option.