Refinance or Just Pay Down a Mortgage

A client asked me how she can find out whether she would save money by either making additional principal payments each year or refinancing my mortgage?

I created a calculator for her using Excel so that she can visually see the answer to her question and I thought it was kind of cool so I have decided to share it with all of you.

She owed $167,000 and had about 25 years left on a loan with an interest rate of slightly less than 5 percent. She could either lock in at less than 3 percent on a 15-year fixed-rate 
mortgage or she can make additional principal payments each year 
on her current 30-year loan.

The first thing I determined is determining how long she planned to remain in the 
house. If she anticipated moving in a few years, it would not be a good idea to 
pay thousands of dollars in closing costs just to lock in that lower 
interest rate.

Making additional principal payments will reduce her total interest expense, 
but she will be stuck with the higher interest rate and refinancing,  
would get a lower rate of interest, but she could make additional principal 
payments.

The chart below, while only estimating her situation, shows how she could 
make additional principal payments on her current loan equal to the difference 
in payments between the existing loan and a new 15-year loan at 2.95 percent 
interest, and she would still pay $48,533 in interest expenses versus a new 
15-year refinancing. Another benefit is refinancing also shortens her loan term 
by 3 ½ years.

Additional payments vs. refi
 
 
                      Current loan w/additional principal payments  15-year refinancing    Difference
 
Loan amount                            $167,000                                      $167,000
 
Interest rate                                  4.95%                                           2.95%                     2%

Loan term (months)                        222                                              180                       42

Payment                                     $971.41                                      $1,149.26            $(177.85)

Additional principal payment      $177.85                                             $-                  $177.85

Total monthly payment             $1,149.26                                     $1,149.26                  $-

Total payments                       $255,400.16                                 $206,866.74       $48,533.42

Total interest expense             $88,400.16                                    $39,866.74       $48,533.42
 
This analysis doesn't include closing costs from a refinancing or the 
potential reduction of the mortgage interest deduction on her income taxes. 
Even so, it's clear refinancing is a better option than making additional 
principal payments on her existing loan if she plans to be in her home for a 
long time.

Are you thinking about refinancing?  Allow me to provide an analysis of your situation to assist you make the decision.

Till next time my friends!