Lew Sichelman
If the past is prologue, millions of homeowners with high-rate mortgages won’t refinance their loans, even as mortgage rates tumble.
Refinancing offers significant savings and can potentially improve your financial stability. Still, there are all kinds of reasons people don’t do it. Perhaps they no longer qualify for financing or can’t afford to close on a new loan. They might not know how to begin the process, or they don’t want the hassle.
Then again, maybe they just aren’t paying attention to the fact that mortgage rates have finally started to fall. A year ago, rates hit a peak of 7.79 percent – but by this September, they’d dropped to 6.2 percent.
Whatever the reason, previous cycles suggest that many borrowers eligible to refinance just don’t do so.
“Even as interest rates fell to historic lows in 2020 and 2021” – a low of 2.65 percent in January 2021, to be precise – “about 3.7 million mortgages (7.4 percent) still had interest rates of at least 6 percent,” according to a report from the Consumer Financial Protection Bureau.
What to Wait For
At today’s rates, roughly 2.5 million borrowers are good candidates to refinance, said the CFPB. And if rates dip to, say, 5.5 percent, then over 7 million people could potentially refi.
Still, the fear is that too many borrowers will miss the boat again. To encourage people to refinance, the watchdog agency is exploring ways to streamline the process. Director Rohit Chopra said the agency is also working to curb the “exorbitant closing costs and junk fees” that make refinancing too expensive for many.
So, does it make sense for you to refi this time around? Here are some things to consider.
One rule of thumb is that it doesn’t pay to refinance unless rates have fallen by 2 percentage points or more. But now, with millions of recent homebuyers sitting on mortgages over 6 percent, it might make sense to take the step sooner. According to figures from the CFPB, someone who took out a $400,000 mortgage in October 2023 at 7.79 percent could have trimmed their monthly principal-and-interest payment by $427 had they refinanced at 6.2 percent in September.
The 1.59 percent slide in mortgage rates has already triggered a flurry of refinance applications. According to the Mortgage Bankers Association, refis accounted for 55.7 percent of all loan applications for the week ending Sept. 20 – which was “175 percent higher than the same week one year ago,” per a news release from the group.
Some borrowers will still sit tight, waiting for rates to fall even further, but there’s no guarantee that will happen. Indeed, some economists point out that the Federal Reserve’s rate cut was already baked into mortgage rates by lenders who expected it. And any future cuts from the Fed wouldn’t necessarily decrease loan rates.
It Isn’t Always Cheap
If you decide to refinance, know that it isn’t cheap. Generally, plan on spending roughly 5 percent to 7 percent of the mortgage amount on closing costs – which may or may not include the cost of an appraisal, title search and application fees.
That’s a lot of cash, but many lenders will allow borrowers to roll those costs into the loan balance.
Then again, that may defeat the purpose of refinancing: With a higher balance, the monthly payments may not fall by much – or at all. It’s doubtful that recent buyers have built up enough equity in their homes to give them much of a borrowing cushion.
It’s best to sit down with a mortgage broker or loan officer, work the numbers and make an informed decision.
One factor to consider is how long you plan to stay in your house. If it’s only a couple more years, you won’t be there long enough to recoup your costs. But if you plan to remain longer, refinancing might make sense.
While you’re pondering all of this, make sure you can qualify for a new mortgage. Put your credit history in order: Don’t use more than 30 percent of the total credit allocated on your cards, and pay on time. Any late payments over the previous 12 months will be counted against you.
Check to see how much equity you have built up in your house since you bought it. For the most part, home values have been rising steadily in recent months, but in some markets, values have fallen. Mortgage companies generally won’t lend more than 80 percent of a home’s value, so if your loan-to-balance ratio is greater than that, you may not be a good candidate. That’s especially true if you took out a second mortgage or used credit to get through the pandemic-induced economic downturn.
Still, check with a loan officer anyway; some lenders may be willing to proceed with a higher ratio if a borrower checks all the other boxes.
Lastly, make sure you have some cash on hand. Refinancing costs are significant – expect to pay almost as much as you did to close the original loan. Even if you can roll some charges into your new loan, you’ll still have to put some funds down.
Lew Sichelman has been covering real estate for more than 50 years. He is a regular contributor to numerous shelter magazines and housing and housing-finance industry publications. Readers can contact him at lsichelman@aol.com.
