Q: I wonder when I should refinance my mortgage. In February, I closed on my 30-year $118,750 loan at 7 percent. The closing costs were $3,522, and I’m paying $78 per month for private mortgage insurance.
I have made some improvements to the property and now the property appraises at $175,000. If I refinance now I could lose the PMI but if I have closing costs it would seem to defeat the purpose.
I may also want to get $5,000 cash out for an additional home improvement. It would increase the property value quite a bit and I’d really like to proceed with that project.
A: You paid a boatload in points and fees when you closed in February, or did the amount of closing cost you included in your letter include prepaid interest and property taxes? If not, paying 2 percent of the loan amount is twice as much as you should pay, according to most lenders, unless you’re paying down the rate, which seems unlikely in your case.
I do think you should try to refinance out of your PMI, but go for a no-cost mortgage. Also, consider changing the type of loan so that you can maximize your savings.
I’d like to see you try a 7/1 ARM or a 5/1 ARM (an adjustable rate mortgage that’s fixed for the first seven or five years and then adjusts to a 1-year ARM after that). If you’re sure you’re going to be there longer than 7 years, you can try a 30-year fixed rate loan, but the rate will be higher.
A “no cost” loan means no points, no fees. The rate should be close to where you are now, or lower. If you do pay any fees, aim to pay them off with your savings within 6 months to a year. Ideally, I’d like to see you in a 30-year mortgage for 6.75 percent or better yet, a 5/1 ARM for about 6 percent or less.
Start any refinance project by shopping the rates. Go to www.BankRate.com and check out what lenders are offering in your area. Then, go to your company’s credit union and check out local lenders your friends used with success.
Next, make sure you do your math, so you know what you’ll end up with, what it will cost you, and how much you’ll save. As for taking out the additional $5,000, lenders will allow you to do a cash-out refinance up to 75 percent or 80 percent of your total equity. If your home is truly worth $175,000, you can take out a mortgage up to $140,000. That should give you enough swing to take out your $5,000 for the home improvement.
Another option is to arrange a home equity loan with the same lender who is doing your refinancing. You can close on both loans at the same time. Your other option is to wait until after your loan closes and then shop around for a home equity loan.