Refinancing Your Mortgage: How Much Interest Can You Save?

Over the past two or three years a large number of home owners were scrambling to lock-in their mortgages before interest rates went shooting up.  Since then mortgage rates have remained at extremely low levels, which is causing people to second guess their decision.

There are a few reasons why you might want to refinance your mortgage.  You can take advantage of lower interest rates, consolidate higher interest debt, or use your home equity for renovations, or large purchases.

Refinance Mortgage: Take Advantage of Low Rates

When interest rates are low, many people refinance to take advantage of the savings this can mean over the life of their mortgage.  But there is an important point to keep in mind before you refinance your mortgage.

Will you have to pay a mortgage pre-payment charge?  A pre-payment charge is what you will have to pay for breaking the terms initially negotiated on your mortgage.  This can be a large amount, which means you won’t really be saving money in the long run.

Refinance Mortgage: How Much Can You Save?

How much interest can you save if you refinance your mortgage?  A good rule of thumb when considering a refinance is if interest rates are at least 0.5% lower than your current mortgage rate.

Let’s take a look at a scenario where you locked-in with a 5 year fixed mortgage rate of 3.99% back in 2009.  You know that the variable rate is lower but you are still concerned about rising interest rates.  The best 5 year fixed mortgage rate out there today is at 3.49%.  The balance on your mortgage is $250,000.

To break your current mortgage after 2 years of payments and with 3 years remaining you would be charged an interest rate differential (IRD) penalty of $3,750.  The penalty sounds pretty stiff and that’s what scares a lot of people and prevents them from taking action.

If you refinance your mortgage with the new interest rate of 3.49% for the remaining 36 months, you will save $128 in mortgage payments each month and save over $6,775 in interest.

Refinance Mortgage: A Good Idea?

It amazes me how people can spend so much time shopping around to compare grocery store prices but can’t be bothered to refinance their mortgage, which is the single most expensive debt that most people will every incur in their lives.

Don’t neglect your mortgage for the next five years by spending thousands of dollars more in interest than you should.  I would recommend that you shop and compare mortgage rates at least once a year to ensure you are getting the best deal possible.


11 Responses to Refinancing Your Mortgage: How Much Interest Can You Save?

  1. A very important point you mentioned is that the pre-payment charge and any other early payment costs that might come up are important and must be in one’s calculation to make sure the refinancing process will be beneficial.

    In your example, you took 5 year mortgage… the longer the original mortgage period, the higher saving potential, since the total amount of the interest is higher (assuming the gap between the interest rates is sufficient for refinancing).

  2. This lack of attention always stumped me too Echo. People will spend hours clipping out coupons, or drive across town to save a dollar on a tank of gas, but they can’t be bothered to look into mortgage stuff because it’s boring. Simply shopping around for the best mortgage rate is so easy now with the internet, there is little excuse.

    I’ve always been a big supporter of the “variable rates will save you money in the long run” position. Is it possible that right now might actually be that 10% of the time where it will pay to lock in? I know Carney said rates are going up, but how much can they go up? If the dollar goes much higher vs the USD it will absolutely cripple lot of industry in this country and inflation really isn’t that high. I know that my mortgage will be paid off with 10 years, and I seen a 10 year mortgage out there for 4.5% (without any negotiation). Interesting idea…

  3. Money Beagle says:

    Whenever I see a post like this, I have to comment on the one thing that prevents many people from being in a position to take this advice. One word: Equity.

    I’d love to re-finance. But, since the value of my home has dropped so much over the past few years, I don’t have anywhere near 20% equity, even though we put 20% down when we purchased.

    I’m pretty sure that a bank would be happy to give me a re-fi and at a pretty good rate. We have outstanding credit and could easily afford the payments. However, they’re also going to want me to get back to that 20% equity line, which would require me bringing a huge check to the closing, or tell me that I have to start paying PMI *and* start escrowing my tax and insurance funds, which would negate some or all of the savings I’d get by a lower interest rate.

  4. SupportSpy says:

    Great advice to look at the mortgage rates at least once a year. I’m always amazed at the lengths people go to save the small change in their wallet without ever looking at ways to save on the big cost items like interest rates, insurance and taxes.

  5. We just finished refinancing our rental home. We reduced from 15 years loan down to 10. (Only 6.5 years left.) The payment went down by about 1/3. This is great for us because our cash flow is much better after the refinance.

  6. This is great advice, but isn’t it pretty hard to get a loan right now?

  7. I guess it is different depending on whether you live in the states or in Canada– refinancing up here would probably be easier, I’m assuming.

    I have a variable mortgage and I know rates will be going up, but they keep delaying it and I’m going to just sit and wait and watch.

  8. With a mortgage being the single most expensive debt that most people will ever incur in their lives, it would make sense to check out refinancing yearly, especially if it would be beneficial. This could be another way to definitely save money way beyond small saves such as coupons, saving pocket change, eating at home versus eating out, not buying that $7 coffee every day, et cetera…

  9. free money mentor says:

    We recently sold our house, we had a 5 percent interest rate. The value of our house fell as well but we knew we could make up that loss with another home in the neighborhood as there are a few foreclosures that were tempting us. Once we found the house we wanted interest rates had fallen and we ended up with 3.5 percent. The actual savings due to a lower interest rate wasn’t much but buying another home in foreclosure status helped us cut our payemnts in half. I usually recommend refinancing if the rate is atleast 1 percent below what you currently have but saving money is saving money, so if you don’t have to pay much out of pocket to refinance then you should go for it.

  10. john says:

    It costs you nothing to ask a broker to run a rule over your existing debt situation. If you cant do any better, no harm, no foul.

  11. No Debt Guy says:

    People have to be very careful with the math in doing this. Unfortunately in the example case the IRD was inaccurate. With 3 years left on the mortgage the IRD would be based on the current 3 year rate, not the 5 year rate.

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