Refinancing your mortgage loan to one with lower interest rates can result in lower payments; the amount you save depends on the size of your loan and your new rate. But if your home has dropped in value since you purchased it, it makes sense to wonder whether refinancing still makes sense. The good news is that you can still enjoy the savings that come with a refinance even if your home's value has fallen. But qualifying for a refinance might prove more challenging.
Mortgage lenders typically require that you have at least 20 percent equity in your home before they'll grant you a refinance. This becomes a higher hurdle when your home has lost value since you purchased it. In fact, some homeowners find that they owe more on their homes that what they're currently worth -- their homes are said to be "underwater."
The Financial Benefits of Refinancing
Depending on how much your interest rates drops, you can save a significant amount of money if you refinance your mortgage loan. If you have a 30-year fixed-rate $200,000 mortgage loan with an interest rate of 7 percent, you'll have a monthly mortgage payment of about $1,330. If you refinance that same loan to one with an interest rate of 3.5 percent, your monthly mortgage payment will drop to about $890. That's a monthly savings of about $440 or $5,280 a year.
The Costs of Refinancing
Refinancing isn't free, though, and you won't be able to determine if refinancing your mortgage loan makes financial sense until you know how much you'll pay for your refinance. Homeowners can expect to pay from 3 percent to 6 percent of their mortgage loan's outstanding balance in closing costs, according to the Federal Reserve Board. For a homeowner who owes $200,000, that comes out to closing costs of $6,000 to $12,000.
Is it Financially Worth It?
To determine if your refinance is worth it, compare the money you will save each month with the closing costs you'll have to pay. If you are saving $440 a month and paying closing costs of $6,000, you'll be able to recover these costs in little more than a year. But if you are only saving $100 a month and paying closing costs of $10,000 it will take you more than eight years to repay those closing costs.
Don Rafner has been writing professionally since 1992, with work published in "The Washington Post," "Chicago Tribune," "Phoenix Magazine" and several trade magazines. He is also the managing editor of "Midwest Real Estate News." He specializes in writing about mortgage lending, personal finance, business and real-estate topics. He holds a Bachelor of Arts in journalism from the University of Illinois.