Homeowners with high-interest mortgages should consider refinancing for a lower rate when it makes economic sense, especially given recent news from the Federal Reserve. The Fed cut its rate by 0.5%, or fifty basis points to 4.75% to 5.0% at its September meeting. Though this is great news for anyone locked into a mortgage with high rates, it's important to pause. Before you apply for a new mortgage, you need to determine whether it’s worth paying to refinance and figure out when you’ll break even — the point at which the savings on your new mortgage surpass the upfront costs.
Refinancing your mortgage can help you get a lower monthly payment. You also have the opportunity to change up your loan type and term. A cash-out refinance is another mortgage refinancing option that lets you convert home equity into cash. That lump sum could pay for a home renovation or to retire high-interest credit card or student loan debt.
Mortgage rates were already falling from their high of 7.39% in May. For homeowners looking to refinance, the average 30-year fixed refinance interest rate is 6.28%, falling four basis points from a week ago., according to Bankrate.com.
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As of June 2024, an estimated 4 million outstanding loans originated during the period of high interest rates in 2023 and 2024. An estimated $579 billion in loan balances carry an interest rate in the 6.75% to 7.5% range, and an additional $157 billion in loan balances are at or above 7.5%, according to National Mortgage Professional. "Many of these loans from those years are likely already “in the money” candidates for a lower rate refinance or will be among the first in line to apply for refinancing should interest rates drop at or below 6%," says CoreLogic economist Yanling Mayer.
The cost of refinancing your mortgage
When you refinance your mortgage, you’re getting a brand-new mortgage with a lower interest rate, possibly a different loan term and potentially from a different lender. This new mortgage pays off your original loan.
Refinance closing costs are fees and expenses related to replacing your existing mortgage balance with a new one. They typically include many of the same fees you paid when you first closed on your home loan.
National average closing costs for a single-family home refinance were $2,375 without taxes or recording fees, according to the latest data from 2021 data from ClosingCorp (now part of Core Logic.) The fees typically add up to between 2% and 5% of the loan amount, according to data from Freddie Mac.
Here are eight types of closing costs you can expect when you refinance your mortgage:
- Application fee: $75 – $300
- Origination and/or underwriting: 1% – 1.5% of loan principal
- Attorney/settlement fee: $500 – $1,000
- Recording fee: $25 – $250 depending on location
- Appraisal fee: $25 – $250 depending on location
- Credit check fee: $25
- Title services: $300 – $2,000
- Survey fee: $140 – $400
You might be able to reduce your refinance closing costs by increasing your credit score, reducing your overall debt load and shopping around for the best lender. If you work with the same title insurance company you can ask for a discounted reissue rate.
Impact of refinancing for a lower rate
Whether or not it makes sense to refinance your mortgage is primarily based on whether the upfront costs of refinancing and the time period you intend to occupy the home work together to lower your monthly costs and make refinancing cost-effective. It’s usually worth it to refinance if you could lower your current rate by one percent.
This is calculated by adding up all refinancing closing costs and figuring out how many years it will take you to make up those costs with the savings from your new mortgage payment compared to your previous one. Refinancing makes more sense if you plan to stay in your home longer than the break-even point. Otherwise, you could potentially lose money.
You can calculate your own potential savings by using Kiplinger's Mortgage Refinance Calculator and determine which rate will help you get to your break-even number.
Let's take a look at two examples of the impact of lower rates on monthly payments. Our scenarios include a loan balance of $400,000, a mortgage rate of 6.5% and refinancing costs of 2%. As the table below demonstrates, a mortgage rate decrease of 1% versus 0.5% results in widely different break-even times, thanks to number crunching assistance from The Mortgage Report.
| Refinancing for a 1% lower rate | Row 0 - Cell 1 | Row 0 - Cell 2 |
| Row 1 - Cell 0 | Loan balance | $400,000 |
| Row 2 - Cell 0 | Current interest rate | 6.5% |
| Row 3 - Cell 0 | New interest rate | 5.5% (-1%) |
| Row 4 - Cell 0 | Monthly savings | $257 |
| Row 5 - Cell 0 | Closing costs | $8,000 (2%) |
| Row 6 - Cell 0 | Duration of break even period | 31 months (2.6 years) |
| Row 7 - Cell 0 | Worth It? | If you keep the loan 2.6 years or longer |
| Refinancing for a 0.5% lower rate | Row 8 - Cell 1 | Row 8 - Cell 2 |
| Row 9 - Cell 0 | Loan balance | $400,000 |
| Row 10 - Cell 0 | Current interest rate | 6.5% |
| Row 11 - Cell 0 | New interest rate | 6.25% (-0.5%) |
| Row 12 - Cell 0 | Monthly savings | $122 |
| Row 13 - Cell 0 | Closing costs | $8,000 (2%) |
| Row 14 - Cell 0 | Duration of break even period | 65 months (5.5 years) |
| Row 15 - Cell 0 | Worth It? | If you keep the loan 5.5 years or longer |
Refinancing for a 0.25% lower rate is not generally recommended but could be worth it if you can refinance to consolidate high-interest debts, have a jumbo loan with significantly higher interest rates or are switching from an adjustable-rate mortgage to a fixed-rate mortgage.
"The Fed’s next move will have a direct impact on any existing adjustable rate mortgages (ARMs) that are about to exit their upfront grace period with the potential to shock a homeowner who borrowed during the low-interest rate period prior to 2022. As ARMs pass the fixed period, they typically adjust annually with a cap for the life of the mortgage, says Mark Malek, CIO at Siebert. He continued "Additionally, those who did choose ARMs are not likely to enjoy the full rate cut benefit as their upward adjustment would likely hit the adjustment cap."
Refinancing options before the break-even point
Remember that “breaking even” with your closing costs isn’t the only way to determine if a refinance is worth it. A homeowner who plans to move or refinance again before the break-even point might opt for either a no-closing-cost refinance or rolling closing costs into the refinance loan.
No-closing-cost refinancing typically means the mortgage lender covers part or all of your closing costs, and you pay a slightly higher interest rate in exchange. If you’re still saving enough when compared to your existing mortgage loan, this strategy can still pay off. This can be a beneficial situation for borrowers who plan to keep their new loan for only a few years.
You can also roll the closing costs into the refinance loan. If you're cash poor and going to keep the loan for more than a few years, rolling closing costs into the loan amount may be more affordable than a no-closing-cost loan with a higher interest rate.
Making the decision to refinance
When deciding to refinance, look closely at all of the numbers and how they impact your monthly costs. You also need to consider costs over the life of the loan or the time period you intend to live in the home if you plan on selling in the near term. Because if your new interest rate isn’t low enough, you might actually pay more interest in the long run because you pay it for a longer time.
Evaluating the impact of your credit score on how much your new loan will cost can also help you determine the right time to refinance. When you can’t qualify for an interest rate that’s lower than your current loan’s rate, consider improving your credit score before applying.
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