Over the past 6 months, you've no doubt heard that this is the best time in recent history to refinance your mortgage or buy a new home. While it's easy to assume that those low mortgage rates are just the new normal, recent action from the Federal Reserve tells us that this window to lock in a mortgage at 60-year lows may be closing.
Before we look at the reason, let's take a quick look at why mortgage rates have been so low for so long. A little background on the banking system might help explain why experts are making this observation.
Financial institutions base the rates that they charge for loans on how much it costs them to borrow money. Because other financial institutions are the lowest-risk borrowers, they get the best rate. This is usually called the "prime rate." This rate is set by each individual institution, although they all follow signals from the Federal Reserve. The Federal Reserve uses a variety of instruments to influence the prime rate. These signals come in two forms: lending rates and bond purchases. Lending rates are the interest rates that the Federal Reserve charges to other financial institutions. Bond purchases are investments that the Federal Reserve makes in loans that institutions are making.
Since 2008, the Federal Reserve has used these signals to make credit cheaper in an effort to spur growth in major employment sectors, like construction and small business. The Federal Reserve Board kept rates low until unemployment dropped below 6.5% or inflation went up over 2.5%. New economic reports suggest that the unemployment figure could be approaching that 6.5% target. New Fed Chair Janet Yellen has begun reducing bond purchases. Experts suggest that this tapering is the Federal Reserve's first step toward reigning in the stimulus. These signals tell financial experts that rates may soon go up, including the interest rates on new mortgages.
The frightening reality is that it doesn't matter if they're right or not. If enough big lenders decide they are, those institutions can start raising their interest rates. This move will prompt other lenders to raise their rates in response, and your chance to get into a cheaper mortgage will be over.
Unless you can get a full percent lower interest rate, the costs of refinancing make it unfeasible. You might not be able to do that by just extending the term of your mortgage. Yet, this may be a good time to revisit your financial goals and figure out what kind of mortgage suits your financial future. Here are a couple of questions to help you figure out if a new mortgage is for you:
Can you afford a higher monthly payment for a shorter period of time?
The most significant impact you can have on the interest rate for your mortgage is to shorten the term of the loan. Because your lender gets paid in full sooner, they're exposed to less risk, so they charge a lower interest rate. If you're 10 years into a 30-year mortgage, you aren't likely to save by refinancing into another 30-year mortgage. You might be in a better financial situation than you were 10 years ago, though. The higher monthly payment of a 15-year mortgage might not be as much of a problem. This refinancing strategy gets you out of debt sooner and saves you money in the long term.
Are you going to be out of debt before you retire?
The best way you can make retirement more affordable is to retire debt-free. This allows you to use your retirement funds to support your lifestyle and hobbies. Now is a good time to investigate a shorter-term mortgage that you can have paid in full before you retire. It'll never be cheaper to get into a mortgage that better fits your financial needs.
Are you unsure if you'll be moving soon?
Remember, "soon" for big decisions like mortgages means in the next five years. If the next 5 years could bring a move for career or family, it might be wise to lower the total debt load on your house. For this kind of decision, the monthly payment matters less than the total amount owed. You'll be selling your house to cover the debt. The smaller you can make the amount owed, the more of the sale price of your house you get to keep. Consider a "hybrid" mortgage (Our 10/1 ARM is a good example of this type of loan). These loans are fixed-rate for a specified time, and then use adjustable rates for the rest of the loan. This kind of refinance can save you money for the time you'll be paying for the home.
Have you been denied for refinancing before?