Rule of Thumb for Mortgage Refinancing — Spirit Financial CU (2024)

FAQs

What is the rule of thumb for mortgage refinancing? ›

One of the best and most common reasons to refinance is to lower your loan's interest rate. Historically, the rule of thumb has been that refinancing is a good idea if you can reduce your interest rate by at least 2%. However, many lenders say 1% savings is enough of an incentive to refinance.

Generally speaking, you should have at least 20% equity in your home if you want to refinance. If you want to get rid of private mortgage insurance (PMI), you'll likely need 20% equity in your home. This number is often the amount of equity you'll need if you want to do a cash-out refinance, too.

In most cases, it doesn't make sense to refinance a mortgage until the rate has dropped a full percentage point below your current rate. Once that happens, you can compare the amount your mortgage payment will drop against the closing costs you'll have to pay to refinance.

It is usually worth to do so if you can lower your interest rate enough to save money month-to-month and in the long term. Depending on your current loan, dropping your rate by 1%, 0.5%, or even 0.25% could be enough to make refinancing worth it.

Conventional refinance: For conventional refinances (including cash-out refinances), you'll usually need at least 20 percent equity in your home (or an LTV ratio of no more than 80 percent). This also helps you avoid private mortgage insurance payments on your new loan.

If you are refinancing a mortgage, you have until midnight of the third business day after the transaction to rescind (cancel) the mortgage contract. The right of rescission refers to the right of a consumer to cancel certain types of loans.

The federal government considers a 43% DTI ratio the upper limit for mortgage approvals. Ideally, your DTI ratio should be 36% or lower. If your new mortgage payment puts you above the refinance debt-to-income ratio, your application may be denied.

Refinancing allows you to lengthen your loan term if you're having trouble making your payments. The downsides are that you'll be paying off your mortgage longer and you'll pay more in interest over time. However, a longer loan term can make your monthly payments more affordable and free up extra cash.

Moving into a longer-term loan: If you're already at least halfway through the loan term, it's unlikely you'll save money refinancing. You've already reached the point where more of your payment is going to loan principal than interest; refinancing now means you'll restart the clock and pay more toward interest again.

How to negotiate lower for mortgage refinance? ›

Refinancing for better terms, which can include lower monthly payments, can save you significant money over the life of your loan. Popular advice is to have at least 20% equity in your home before refinancing so you can qualify for better rates and get rid of private mortgage insurance if you have it.

An often-quoted rule of thumb says that if mortgage rates are lower than your current rate by 1% or more, it might be a good idea to refinance.

Rules for refinancing conventional loans

In most cases, you may refinance a conventional loan as soon as you want. You might have to wait six months before you can refinance with the same lender. But that doesn't stop you from refinancing with a different lender.

Your Monthly Payment Could Increase

If you refinance from a 30-year mortgage to a 15-year mortgage, your payment will likely increase because you are shortening the amount of time you have to pay off your loan.

You can also get a cash-out refinance, which allows you to borrow against the equity in your home, pulling some portion of the difference between what you still owe and its current value. Many lenders cap cash-out refinancing at 80 percent of the home's total value on most loan types.