Let’s say you bought your home for $400,000 with a 20% down payment. You’re left with a $320,000 mortgage to pay off. Your down payment of $80,000 now becomes equity in your home. If you make regular payments, your mortgage would typically be paid off in 25 years.
However, many events could happen in those 25 years that may result in you being short on cash, wanting lower mortgage payments or looking to invest in another asset. Certain circumstances make refinancing your home a good option to consider.
What is a refinance?
A refinance is when you take out a new loan against your home and pay out the existing mortgage (if applicable). From the lender’s standpoint, this is essentially a new loan application.
Now let’s say ten years after buying that home, it’s increased in value. The home that you originally purchased for $400,000 is now worth $600,000. The balance you have to pay on your mortgage is $260,000. The increase in value now means you have $340,000 worth of equity in your home. Under what circumstances would you potentially want to refinance your home?
Refinance in Case of Emergency or Unplanned Expenses
We all know things happen that you didn’t plan for. Unexpected medical bills, school tuition, a flood, roof repairs, renovations, the list goes on. Life moments like these can be expensive, and most people don’t exactly have that kind of money readily available. If your home is worth $600,000 and your mortgage is $260,000, you could potentially access up to $220,000 of your home equity. Your mortgage would then increase by the amount you take out, but you’d be able to cover these costs.
One of the benefits of refinancing in this circumstance is you’ll save on interest. With current mortgage rates below 3%, you access debt at a lower cost. Traditionally you’d be paying 6-30% through unsecured debt, lines of credit or credit cards.
Refinance to Lower your Mortgage Payment
If cash flow is an issue, you may want to consider lowering your mortgage payment to live with more financial flexibility. Keep in mind that this doesn’t mean you’re saving money in the long run. You’ll end up paying more interest over time.
If your mortgage is $320,000 at 3% over a 25 year amortization period, your monthly payments would be $1,514. Let’s assume rates don’t change, and ten years have passed. Your payments would still be $1,514, even though the balance of your mortgage has dropped to $260,000. You could refinance into a 30-year amortization mortgage and your monthly mortgage payment would drop to $1,094. That’s an extra $420 in your pocket each month.
Refinance your Mortgage to Invest
Some investors use the equity in their home to invest in the stock market, to buy rental properties, etc. We would advise you to consult your accountant or wealth manager to determine what’s right for you. The benefits of using your home to invest allows you to leverage returns using a relatively cheap cost of funds and enables you to diversify your risk.
Whatever the circumstance, there are just three examples of what’s possible for you as it relates to refinancing your home. How much additional financing do you qualify for, and how much home equity can you access?