September 20th, 2012 1:02 PM by Richard T. Cirelli
Lower Rates Create “Serial” Refinancers”
Homeowners eager to lock in lower monthly mortgage payments have discovered “serial refinancing”, refinancing multiple times to take advantage of even small decreases in interest rates.
Since 2009 almost 2.2 million homeowners have refinanced their mortgages at least twice. Between 2006 and 2008, some 3.5 million homeowners refinanced at least twice.
There is little incentive to stop refinancing. Rates are at record lows, and lenders can eliminate or reduce some or all of the closing costs for the borrower. Refinancing can be effectively free in many cases.
How Much Does the Rate Need to be Reduced to Benefit?
The answer varies depending on how long you keep the loan. If it costs nothing it could make sense with as little improvement as .125%. I’m seeing most borrowers refinancing when rates drop as little as three-eighths of a percentage point. The traditional rules of refinancing are no longer in play with today’s “no-cost” options.
How Does a “No-Cost” Refinance Work?
What’s the catch? In exchange for waiving closing costs, lenders charge a slightly higher interest rate. In most cases, a rate that is just .25% higher than the “market rate” will allow a true no-cost refinance. By raising the rate by .25%, the lender will credit the borrower with enough money to pay for the closing costs which typically include escrow services, title insurance appraisal, etc. For example, if your current rate is 4% and the market rate is 3.5%, then a lender may make a no-cost refinance at 3.75%.
For many borrowers, it means a lower rate than they’re currently paying and no closing costs. They no longer have to commit to a home for a specific period to recoup their expenses. They can sell if they need to without having to pay the refinancing costs.
Eliminating the costs encourages serial refinancers to come back to refinance again when rates drop by even a small amount, especially for borrowers with large mortgages.
Is a No-Cost Loan the Best Option?
Not necessarily. For borrowers who plan to stay in their homes for a while, the higher rate can outweigh the savings in closing costs. In those cases, it would be better to pay the closing costs and get a lower rate. Depending on the interest rate differential, the loan amount and the amount of typical closing costs, the breakeven point in time typically ranges from 2 to 5 years.
What’s The Best Option for Me?
There are many factors to be considered. As a Certified Mortgage Planning Specialist, I typically present both the no-cost and the standard refinance options to my clients to help guide them to the best choice. We look at the cost and breakeven timing plus consider other ways to save money in the long-run such as different loan terms including 10, 15 and 20 year options in addition to the 30-year fixed rate loan. In cases where the borrower is certain about moving in a few years, Adjustable Rate Mortgages (ARM’s) might make more sense. An ARM carries a lower rate of interest and is fixed at a very low rate for the first 3, 5, 7 or 10 years before the rate becomes adjustable.
My Advice:
My best advice is to not just assume that the 30-year fixed rate loan is the best option. And, don’t jump at the refinance offers from your current mortgage servicer or lender. Many of the offers that I have seen from the big banks are not the best terms available. And, there are no shortcuts. All lenders must package or document your loan to fit the Fannie Mae/Freddie Mac underwriting standards. That means having to prove your income, assets, credit, etc. Therefore, it pays to deal with a mortgage lender that helps you review and compare all of your options.