Getting a lower interest rate is probably the main reason
homeowners refinance their mortgages. But refinancing can also help
you rebuild your equity in your home more quickly as well.
If you bought your home prior to 2006, it's almost a sure bet
that you've got less home equity than you used to. Unless you live
in one of the few high-value, high-demand areas that have largely
shaken off the effects of the housing crash, your home is worth
considerably less than it was a few years ago and, as a result, you
have less home equity.
Rebuilding equity with a 15-year mortgage
The quickest way to rebuild equity through refinancing is by
choosing a new mortgage with a shorter term. A shorter term means
you're making larger payments each month, so you're paying your
mortgage off faster and rebuilding equity at the same time.
The low rates currently available on short-term loans make this
option much more affordable than in the past. Interest rates on
15-year fixed-rate mortgages are currently about three-quarters of
a percentage point lower than comparable 30-year loans, producing
sizeable savings in interest, while 20-year loans have smaller
interest savings.
Certain fees are also waived on new 15- and 20-year mortgages if
you're refinancing a low- or negative-equity (underwater) mortgage
through the federal Home Affordable Refinance Program (HARP), which
further boosts the savings.
The 30-year option
If you can't afford the steeper monthly payments of a 15- or
20-year mortgage, you can still build equity faster by refinancing
into a 30-year fixed-rate mortgage with a lower rate than your
current one. Since the new mortgage will have a lower monthly
payment, you can simply continue to make the same monthly payment
you're making now on the new loan, and the extra cash will go
toward reducing your principle, and therefore increasing your
equity.
Benefits of increased home equity
There are a number of advantages to having greater equity in
your home. For one, it increases your financial flexibility - if a
sudden financial need arises (such as a medical emergency or an
unexpected business opportunity) you can borrow money cheaply
through a home equity loan.
Having equity also makes it much easier to sell your home if you
need or want to. It leaves you with a bit of money for a down
payment on your new home and cash to cover the real estate agent's
fee and other seller costs. If you're underwater on your mortgage,
you'll probably have to bring money to the transaction to sell your
home (unless you can arrange a short sale, which is typically
limited to those who are seriously delinquent on their loans).
Getting rid of PMI
Building up your home equity also allows you to get rid of
private mortgage insurance (PMI) on your mortgage faster than you
might otherwise be able to. Since you can have PMI canceled when
you reach 20 percent equity, refinancing to a shorter-term mortgage
can get you there faster. Since PMI fees are roughly equal to
paying an additional half percent in mortgage interest each year,
the savings can be significant.
Building equity also brings the day closer that you own your
home free and clear. Particularly if you're approaching retirement,
not having a mortgage payment to worry about can be a huge
benefit.
A few cautions
That being said, refinancing to build home equity more quickly
isn't for everyone. First, you want to be sure you can readily
afford the higher monthly mortgage payment - you don't want to lock
yourself into 15-20 years of scrambling to pay the mortgage each
month, or where a temporary setback could cause you to miss a
payment.
Financial advisers also caution against locking up too much of
your wealth in your home. Before trying to boost your equity, you
should be sure that other needs are taken care of, such as fully
funding your retirement account, having a four-to-six month
emergency fund on hand and having adequate insurance to meet your
needs.
But if you've taken care of that, refinancing to rebuild your
home equity can be a great financial strategy.
First published on MortgageLoan.com at:
http://www.mortgageloan.com/refinancing-rebuild-home-equity-9081