Fundamentally, people refinance because they either want to save money or spend money.

Refinancing your current mortgage may or may not be the right decision for your situation. You should first decide why you would like to refinance. Some of the more popular reasons are listed and explained below.

• Lower monthly payment
• Interest rate on adjustable loan is increasing
• Take cash out of property
• Consolidate first and second mortgage
• Balloon loan due

One must remember that refinancing is usually not a simple process of changing terms and rates. The refinancing process involves closing costs and fees similar to those found during the home purchase loan process. This includes closing costs, lender fees, points, appraisal report cost, credit report fee, and various other costs. Most lenders offer streamlined refinance programs if you choose to refinance with the same lender with which you have your current mortgage. The process is quicker and there may be discounts for lender fees.

The first step in checking if refinancing will save you money is to find out the monthly payment and closing costs for the new loan you are seeking. If current interest rates are higher, then refinancing is usually not logical if the goal is to save money and lower monthly payments. When you find a loan with a lower monthly payment, then you should look at closing costs and how long you expect to keep your new loan. There are also No Point, No Fee programs which have no closing costs.

You need to find out when you will break even after including the closing costs and fees on the new loan. If your monthly payment is reduced by $100 each month, then you will be paying $1200 less per year. After 2 years, this figure climbs to $2400. If your closing costs are $2000, then you will break even after 20 months. So, a simple way of looking at refinancing is to look at the savings in monthly payment, your closing costs and fees, and how long you expect to keep the loan. The longer you keep the loan, the more you save per month from the lower monthly payment. In some cases, the change in monthly payment may be so small that it does not cover the closing costs and fees.

There are also other factors such as tax deductions and the terms of the new loan. Remember that any points you pay on a refinance are deductible over the life of the loan. This is different from a home purchase where points are fully deductible in the year you close the loan. In addition, you should look at the terms of your new loan, especially for adjustable loans and interest rate adjustments.

Another note to remember is to make sure you do not have a prepayment penalty on your current loan. Many prepayment penalties are only valid for 3 or 5 years so even though you had a prepayment penalty when you first received your mortgage, it may be past the valid period.

As an example, a property which you own may be valued at $100,000. Your outstanding loan balance may be only $50,000. You can usually cash out up to 80% or $80,000 in this case. If you choose to refinance the full $80,000 in a cash-out refinance, you will receive $80,000 minus the $50,000 to pay off the present loan minus any closing costs associated with the refinance. If your closing costs were $2000, then you would receive $80,000-$50,000-$2,000 = $28,000. You are not restricted as to how you use these funds. However, if you use these funds to improve your property or increase the value of your property, the funds spent may be tax deductible. You should consult you tax attorney or accountant for more details

A complete amortization schedule will identify the principal and interest portion of your monthly payments over the life of the loan. With it, you can accurately determine the interest paid within any time period. The (GFE) will itemize costs associated with obtaining the loan. The immediate costs of the transaction will be shown on the GFE, while the interest expense over time will appear on the amortization schedule.

Refinancing Guides

There are many reasons to refinance depending on your situation. Refinancing is a common instrument for a variety of purposes. There are various strategies that one can use in the market to get the best results for your intended goal.

For example, if you refinance an existing $100,000 loan and your closing costs are $2,000, then instead of refinancing $100,000, you would refinance $102,000 and the $2,000 would be added to your loan amount. This way, instead of paying the $2,000 closing costs out of your pocket, you finance the $2,000 in the new loan amount. For a 7% interest rate and 30 Year term, the $2,000 adds $13.31 to your monthly payment.

For example, you are refinancing for a $100,000 loan amount. You are offered 8% with zero points, but you wish to buy down the interest rate. The lender has a loan that offers 7% with 2 points. The 2 points equals $2,000. If you finance the points, this adds $13.31 to your monthly payment. However, the monthly payment on the 7% loan($665.30) is $68.46 less than the monthly payment on the 8% loan($733.76) so you still have a lower overall monthly payment. In addition, a lower interest rate loan is easier to qualify for due to the lower monthly payment.

A common loan product to use in this situation is the 1 Year Adjustable Mortgage that has a low fixed rate for 12 months and usually increases by 2% after the 12th month. In general , 1 Year Adjustable Mortgage interest rates are 1.00-1.50% less than a comparable 30 Year Fixed Mortgage. Therefore, it can be advantageous to stay on a 1 Year Adjustable and refinance every 12 months.

To determine which Fixed/ARM term is best, you should first figure how long you intend to keep the loan. For example, the 3 Year Fixed/ARM would be good for those who intend to keep the loan for 3-4 years. If you intend to keep the loan for 5 years, then a 5 Year Fixed/ARM may be the best loan product for you. The longer the term, the higher the interest rate because the lender is taking more risk.

Zero points and Zero Fee loans

"Now you can lower your monthly payment at no cost to you." Sound familiar? Many people took advantage of the historic down-trend in interest rates during the 1990s. Reducing your monthly payment can be, and often is a good idea. If you invest the monthly savings, you'll be doing everything possible to maximize the benefits of refinancing. In the 90s, many people refinanced numerous times with zero-point/fee loans--and why not? When you can lower your mortgage payment for "free", shouldn't you always do so? As you'll see, simply because you can refinance with a zero-point/fee loan, doesn't mean you should.

Rebate pricing (yield spread pricing, service-release premium) makes zero-point/fee loans possible. Simply put, you pay a higher-than-market interest rate in exchange for cash. The cash is used to pay your closing costs. Here is a hypothetical example of rate/points combinations. The negative points are rebates. One point is 1 percent of the loan amount.

7.25%,   2 points
7.75%,   1 point
8.00%,   0 points
8.50%,  -1 point
9.00%, -2 points

On a $100,000 loan, you can pay 8 percent interest and receive two points, ($2,000) which you can use to pay your closing costs.

What are the benefits of a zero-point/fee loan?

You can lower your monthly payment with no out-of-pocket expenses. In the short-run, you can save money. There may be some recurring costs collected from you at closing, but you'd pay these costs if you didn't refinance. They are not a cost of the transaction. Recurring costs include property taxes, insurance and pre-paid mortgage interest.

If you are doing refinance frequently, use this option.

What are the disadvantages of a zero-point/fee loan?

The obvious disadvantage is that you're paying a higher rate in order go obtain the rebate. If you pay closing costs from your personal funds, you receive a lower interest rate. If you keep the loan long enough, (approximately two to three years) you'll pay more than if you had paid points, closing costs and received a lower rate. 

Not quite as obvious is something that can happen each time you refinance: you extend the time you have a mortgage. Suppose you purchase a home and obtain a $100,000, 9 percent, 30-year, fixed-rate loan. After three years your loan balance is $97,750. You get a new, $97,750, 8.5 percent, 30-year, zero-cost/fee loan. After another three years your loan balance is $95,330. You obtain a new, $95,330, 8 percent, 30-year, zero-cost/fee loan. You keep the 8 percent loan and pay it off over 30 years. This scenario may seem unlikely, but many people refinanced this way more than once in the 90s. In this situation, refinancing cost more than holding the original, 30-year, 9 percent mortgage. This scenario will cost more because you twice exchanged a 27-year mortgage for a 30-year mortgage. Your home will be mortgaged for thirty-six years instead of thirty.

Zero-point/fee loans can be advantageous. Make sure the rebate covers your closing costs. Don't increase your new loan amount by adding your closing costs to it. For example if your old loan amount was $100,00, your new loan amount should be $100,000. Zero-point/fee loans are especially attractive when rates are declining and you plan to sell your home in fewer than two to three years, or possible refinance again.

Homeowners Insurance

Homeowners insurance is required by the lender to obtain a mortgage. The typical homeowners policy has two main sections: Section I covers the property of the insured and Section II provides personal liability coverage to the insured. It's a good idea to insure your home for the total amount it would cost to rebuild it if it were destroyed. There are three ways to insure your home:

1. Replacement Cost: Under this coverage, the policy owner is reimbursed an amount necessary to replace the structure with one of similar type and quality at current prices, subject to a maximum dollar amount.
2. Guaranteed Replacement Cost: Under this coverage, the policy owner is reimbursed an amount necessary to replace the structure without a deduction for depreciation and without a dollar limit.
3. Actual Cash Value: Under this coverage, the policy owner is entitled to the depreciated value of the damaged property.

To determine the cost to rebuild your home, consult with an appraiser or a local builder. Note: You only need to insure the structure. You do not need to insure the land.

In the event of a serious loss -- a fire, for example -- how would I fare?

In most cases you should insure your dwelling and its contents for their replacement values, which will likely differ from the dwelling's market value and your personal property's depreciated cash value. Also consider getting a policy with automatic inflation adjustments so that the replacement cost keeps pace with the general level of price increases.

Standard coverage insures your possessions at 50 percent of the value of your dwelling. Many people boost this coverage to 75 percent with additional protection. There are individual limits on certain types of personal property (see below).

Free-standing structures on your property (garages, gazebos, tool sheds, etc.) are also covered, with standard protection equal to 10 percent of your dwelling. Trees and shrubbery normally can be replaced up to a limit of 5 percent of your dwelling coverage. As is the case with your personal property, you should assess your needs to determine if you want to pay extra amounts to increase these levels of protection.

Also, pay attention to what might happen if you were to lose the use of your home for an extended period. Loss-of-use provisions are important elements of homeowners policies, and coverage levels up to and exceeding 30 percent of your dwelling's insurance aren't unusual.

If someone not covered on my health insurance were to suffer a serious injury in my home, and I were found liable, how would I fare?

The standard level of liability protection in homeowners policies has been $100,000, but it's rising all the time. Today, $300,000 is not an uncommon amount, and even higher levels are recommended for affluent homeowners with substantial assets to protect. In this situation, "umbrella" policies have become popular. These policies provide excess liability coverage on both your homeowners and automobile policies, and are relatively inexpensive (you normally need to carry both underlying policies with the same insurer).

Can I afford a high deductible--say $1,000--to save money on the?

The differences in annual premiums between policies with deductibles of $250 (you pay the first $250 of damage, the insurer pays the rest), $500 and $1,000 may easily be worth twenty to 30 percent of the annual premium. So, if you can afford the expenditure, and want to place a small bet that you won't face a home-related loss, consider a larger deductible.

Earthquake Insurance

Basic homeowners policies DO NOT cover earthquake damage. You may typically purchase earthquake insurance from the same company that issued your homeowners policy. Earthquake insurance is usually not required by the lender when purchasing or refinancing your home. Earthquake insurance is considered catastrophic coverage and most policies carry a very high deductible--often up to 10 percent or more of the home value. The deductible represents the amount you must pay before your policy begins to benefit you.

Geographic areas are graded on a scale from one to five. Insurance rates may vary depending on your particular location. Owners of wooden homes will usually get better rates than owner of brick homes since wood better withstands quake stress compared to brick. Depending on where you live, you may be able to get an earthquake endorsement to your homeowner's policy. Contact your agent or state insurance department for details.

It's important to determine your rights for filing claims prior to purchasing a policy. Find out the time period allowed for filing a claim following a quake. California's Northridge quake occurred in early 1994, yet claims continued to be filed many years afterwards for two reasons. First, in some cases earthquake damage wasn't immediately apparent. Second, as repair costs increased over time, many homeowners exceeded their deductibles and became eligible to file a claim.

Residents in the states of California, Missouri and Washington are the leading purchasers of earthquake insurance. Currently, the majority of earthquake policies in California are sold through the California Earthquake Authority (CEA). The CEA is a privately funded, publicly managed consortium of insurance companies. The CEA was created after the Northridge quake in response to insurance companies discontinuing the sale of homeowners and earthquake insurance for fear of experiencing further losses. The CEA's mini-policy is generally regarded as the industry's standard earthquake policy, and similar mini-policies are sold by insurance companies not participating in the CEA.

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