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Can refinancing your mortgage save you money?

Refinancing your home can be a daunting task, so find out when it could save you money - and when it won't.

By Terence Loose | Yahoo! Home 

Are you wondering if refinancing your mortgage can save you money? 

Well, that all depends on your personal situation. In fact, from refinancing costs to how long you plan on living in your home, there are many factors involved in determining whether or not you'll save money. 

That said, if it does make financial sense, there's no time like the present to maximize those savings, says Jim Duffy, a mortgage banker with Cole Taylor Mortgage. 

"It's a great time to refinance because rates are at their lowest ever," he says.

Want specifics? Try this: the interest rate on a 30-year fixed rate mortgage was 3.43 percent as of October 10, 2012, according to Mortgage News Daily, an organization that provides housing news and analysis.

If refinancing sounds like a money-saving option for you, read on for advice on when refinancing might save you money - and when it might not.

Scenario #1 - Switching to a Shorter-Term Loan
Verdict: Money Saver

Do you want to pay off your mortgage and own your home in half the time you originally signed up for? Of course you do. And that's exactly why 15-year loans exist.

But, like any great and wonderful thing, there is a catch: "The monthly payment is always higher than the 30-year loan at a comparable rate because you're paying it off in half the time," says Duffy. "But because you're paying it off in half the time you save more than half in interest." 

But let's not just take his word for it; let's do the math.

The following example is based on a loan of $300,000 at Mortgage News Daily's October 10, 2012 rates for 30-year and a 15-year fixed rate mortgages.

  30-Year Fixed Rate Mortgage 15-Year Fixed Rate Mortgage
Interest Rate 3.43 percent 2.80 percent
Monthly Loan Payment $1,335.44 $2,043.01
Total Amount of Payments $480,758.06 $367,741.86
Total Interest Paid $180,758.06 $67,741.86

Savings Result: If you can handle the higher monthly payment, by going with the 15-year loan you would save $113,016.20 in interest and own your home in half the time.*

Scenario #2 - You're Moving Soon
Verdict: Money Loser

Are you starting to think that the grass is greener on your neighbor's side of the fence - or across town? Perhaps you hope to get a promotion and relocate soon? Whatever the reason, if there's a chance you might move in the next 18 months or so, think twice about refinancing, says Duffy.

Why? Because there are costs involved in refinancing, so even if you lower your monthly payment, it may take awhile to pay off these closing costs before you actually start saving money. These costs, which include such things as loan origination fees, appraisal fees, and application fees, range from 1 to 2.5 percent of the amount you are borrowing, depending on the interest rate you receive. 

"Basically, for a refinance to make sense, you want the savings to recoup the closing costs in actual savings in under two years," says Duffy. So, he recommends that refinancing hopefuls feel confident they will not be selling their home for at least two years and that they get a reduction of at least 1 percent in the interest rate. 

Scenario #3 - You Can Greatly Reduce Your Interest Rate
Verdict: Money Saver

Did you buy your house many years ago at a somewhat high mortgage rate? If so, it could really make sense to refinance now, while mortgage interest rates are at an all-time low, says Duffy.

In fact, it's likely that you could reduce your interest rate by 2 percent or more, depending on when you bought your home. And 2 percent or more could reduce your monthly payment significantly, as well as reduce the amount in total interest by tens or even hundreds of thousands of dollars.

Here's another example, where we'll assume a 2 percent change in rate, from 5.43 percent to 3.43 percent.


Existing Mortgage

New Mortgage

Interest Rate 5.43 percent 3.43 percent
Monthly Loan Payment $1,690.21 $1,335.44
Total Amount of Payments $608,477.29 $480,758.06
Total Interest Paid $308,477.29 $180,758.06


Savings Result: The difference in interest paid over the life of the loan is an impressive $127,719.23. Oh, not to mention a monthly savings of $354.77.*

 Scenario #4 - You Get an Adjustable Rate Mortgage (ARM)
Verdict: Money Loser (for most)

Have you been romanced by those low, low adjustable rate mortgage (ARM) interest rates? Yep, they're seductive, coming in at just over 3 percent as of October 10, 2012, according to Mortgage News Daily.

But before you go all in for one of these, make sure you understand what an ARM is, because according to Duffy, they're not for everyone. 

According to the Federal Reserve Board's Consumer Handbook on Adjustable-Rate Mortgages, an ARM is a mortgage that has a certain interest rate for a period of time, but then adjusts, or changes, periodically. At that point it may go up or down, depending on the financial index on which it is based, as well as market forces.

Duffy says that with today's historically low interest rates on fixed-rate mortgages (which never changes once you've locked it in), ARMs just don't make financial sense for the vast majority of homeowners. 

"You might enjoy some savings in the short-term, but in the long run, rates will likely go up and you'll probably end up paying more in interest than you would have with a fixed rate," says Duffy.

*Actual savings differ depending on how long you have owned your home and how much of the initial interest rate you've already paid.