Another "should I refinance" thread

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Engineer250
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Another "should I refinance" thread

Post by Engineer250 »

Since I'm incapable of making a decision without waffling back and forth, I thought I'd open this up to get ideas for what I am not thinking of.

I currently have ~$257k left on my mortgage with 27 years 10 months left @ 4.5%. I've already refinanced twice, once to get a lower rate and again to get rid of the PMI when my home gained in value. I'm definitely not underwater (maybe value ~$400k).

Looks like I can get ~3.575% APR at $3580 closing costs to save $195/month (these were yesterday's rates/numbers, but just a ballpark).

I will probably move from the house in 5-10 years depending (leaving the state eventually).

Mortgage fellow on the phone didn't think it "made sense" since in 5 years from now my equity would be $231k with existing loan and $235k if I took the refinance (I get different numbers when I run an amortization schedule myself, but same ballpark) and with $26k interest paid between now and then on existing loan and $43k on the refinance (I do itemize to offset that a little).

Does it still make sense to refinance? I would really like to free up an additional $195 in my monthly budget. My emergency savings is abysmal (like 1 month). I have a 0% car loan (~$20k) I'm not going to worry about until the emergency savings is built up and deferred student loans that will come due in another year and a half or so when spouse finishes school (~$25k). Obviously I've made some poor financial decisions recently (I had to deplete the emergency savings and my tax refund to get a new roof this year, not exactly an investment that I got immediate joy out of).

It seems like if I knew I would stay in the house another 30 years the obvious decision is to refi. If I know I'm going to leave in 5, it might not make much sense. But I feel like the tiny change in equity on the debt ($3-4k difference depending on what calculator I use) is minor compared to being able to save more today and build up an emergency fund today. Obviously if I invested that $195 extra in the stock market, I would come out ahead. But I plan on putting it in a high yield (haha!) savings account. Does it still make sense to refi? Is it okay to refi for extra cash flow and lower risk now even though it's not the "smart" financial decision?
Where the tides of fortune take us, no man can know.
furnace
Posts: 356
Joined: Tue Oct 20, 2015 3:38 pm

Re: Another "should I refinance" thread

Post by furnace »

Engineer250 wrote:Since I'm incapable of making a decision without waffling back and forth, I thought I'd open this up to get ideas for what I am not thinking of.

I currently have ~$257k left on my mortgage with 27 years 10 months left @ 4.5%. I've already refinanced twice, once to get a lower rate and again to get rid of the PMI when my home gained in value. I'm definitely not underwater (maybe value ~$400k).

Looks like I can get ~3.575% APR at $3580 closing costs to save $195/month (these were yesterday's rates/numbers, but just a ballpark).

I will probably move from the house in 5-10 years depending (leaving the state eventually).

Mortgage fellow on the phone didn't think it "made sense" since in 5 years from now my equity would be $231k with existing loan and $235k if I took the refinance (I get different numbers when I run an amortization schedule myself, but same ballpark) and with $26k interest paid between now and then on existing loan and $43k on the refinance (I do itemize to offset that a little).

Does it still make sense to refinance? I would really like to free up an additional $195 in my monthly budget. My emergency savings is abysmal (like 1 month). I have a 0% car loan (~$20k) I'm not going to worry about until the emergency savings is built up and deferred student loans that will come due in another year and a half or so when spouse finishes school (~$25k). Obviously I've made some poor financial decisions recently (I had to deplete the emergency savings and my tax refund to get a new roof this year, not exactly an investment that I got immediate joy out of).

It seems like if I knew I would stay in the house another 30 years the obvious decision is to refi. If I know I'm going to leave in 5, it might not make much sense. But I feel like the tiny change in equity on the debt ($3-4k difference depending on what calculator I use) is minor compared to being able to save more today and build up an emergency fund today. Obviously if I invested that $195 extra in the stock market, I would come out ahead. But I plan on putting it in a high yield (haha!) savings account. Does it still make sense to refi? Is it okay to refi for extra cash flow and lower risk now even though it's not the "smart" financial decision?

If you're going to move in 5 years or so, do the Penfed floating rate 5/5 ARM. Your rate is locked for 5 years, and the next adjustment will lock it in for another 5 years and so on. Current rate is 2.5% now. Roll all your closing costs into a higher rate. Do not add to the principal, if that's an option. It's easy to become a member - just call them.

https://penfed.org/5_5-Adjustable-Rate-Mortgage-ARM/
Topic Author
Engineer250
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Re: Another "should I refinance" thread

Post by Engineer250 »

furnace wrote:
If you're going to move in 5 years or so, do the Penfed floating rate 5/5 ARM. Your rate is locked for 5 years, and the next adjustment will lock it in for another 5 years and so on. Current rate is 2.5% now. Roll all your closing costs into a higher rate. Do not add to the principal, if that's an option. It's easy to become a member - just call them.

https://penfed.org/5_5-Adjustable-Rate-Mortgage-ARM/
Thanks but adjustable rate mortgages make me extremely nervous. I have a 100% equity portfolio but don't think I could ever talk myself into the risk of an ARM. Especially since I don't know for sure if I'll move in five years or not, it depends on finding employment out of state and having enough money saved up for a new place.

It's interesting, the mortgage fellow who I talked to seemed like he thought it somewhat likely rates might keep dropping. He didn't think it out of the question US might have to go negative rates like many European countries already have. Of course, he's not anymore an expert on rates than a lot of other people, so I don't necessarily assume he can predict the future any more than other folks can. I think if rates dropped to 3.2 it would be more of a breakeven point on equity, but who knows if they will go that low or if it is worth it to try to snatch up the current interest rates.
Where the tides of fortune take us, no man can know.
whattodonow
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Re: Another "should I refinance" thread

Post by whattodonow »

ARMs aren't that scary. As you near the end of the adjustable period, just refinance again.
harikaried
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Re: Another "should I refinance" thread

Post by harikaried »

PenFed's 5/5 ARM adjusts up by at most 2%, so the current 5/5 2.5% will have a rate no worse than your current 4.5% at least for 5 years after the first adjustment.

$257k @ 2.5% ARM: $1,015.47/mo
$257k @ 3.575%: $1,164.84/mo

So if refinancing to 3.575% would save you $195/mo, getting the 2.5% should save almost $350/mo compared to the current 4.5%.
jbird11
Posts: 95
Joined: Tue Jun 02, 2015 1:24 pm

Re: Another "should I refinance" thread

Post by jbird11 »

Engineer250 wrote: Thanks but adjustable rate mortgages make me extremely nervous.=
I would be much more nervous about not having an emergency fund than I would about what MIGHT happen in 5 years... the very most it could go up in the PenFed example is 2% (over the 2.5% its the same situation you're in now at 4.5%).

Plus, 5 years of extra savings/investing... and the thoughts of selling your house and moving somewhere in there...

Everything about this says an ARM makes sense to me...
Topic Author
Engineer250
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Re: Another "should I refinance" thread

Post by Engineer250 »

harikaried wrote:PenFed's 5/5 ARM adjusts up by at most 2%, so the current 5/5 2.5% will have a rate no worse than your current 4.5% at least for 5 years after the first adjustment.

$257k @ 2.5% ARM: $1,015.47/mo
$257k @ 3.575%: $1,164.84/mo

So if refinancing to 3.575% would save you $195/mo, getting the 2.5% should save almost $350/mo compared to the current 4.5%.
I am not that familiar with ARMs to be honest. Isn't that what precipitated the housing crisis to a large extent? So it can adjust up 2 every 5 years? So in 5 years it could be 4.5. Then in another 5 years 6.5. What if I'm still in my house in 10 years and what if interest rates in 3-4 years from now go screaming up, then I have very few options to refinance. What if there's another liquidity crisis around that same time and it's near impossible to get a refinance?

Yes not having an emergency fund (well I have about 1 month) does make me extremely nervous. I'm not sure an adjustable rate mortgage is the answer, however. I'm surprised it's so popular here given the recommendations to always have a part of your retirement portfolio in bonds and such like that. Seems like the two recommendations are at cross-purposes.
Where the tides of fortune take us, no man can know.
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sunny_socal
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Re: Another "should I refinance" thread

Post by sunny_socal »

I would definitely refi, I've been doing that every couple years at least. The mistake I made was to always refi to another 30yr loan while chasing lower payments. It's kicking the can down the road. I went with a 20yr loan last time, and this time I'm going with a 15yr.

My reasons:
- I don't want an ARM because the financial world could get disturbed at any time (I remember 2008.) A fixed rate lets me sleep well at night.
- Anything less than 30 years will still get very good rates. At least go for 25 rather than 30.
Topic Author
Engineer250
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Re: Another "should I refinance" thread

Post by Engineer250 »

sunny_socal wrote:I would definitely refi, I've been doing that every couple years at least. The mistake I made was to always refi to another 30yr loan while chasing lower payments. It's kicking the can down the road. I went with a 20yr loan last time, and this time I'm going with a 15yr.

My reasons:
- I don't want an ARM because the financial world could get disturbed at any time (I remember 2008.) A fixed rate lets me sleep well at night.
- Anything less than 30 years will still get very good rates. At least go for 25 rather than 30.
Refinancing to a 20 or 25 is an interesting concept. I will look into it whether I can get a slightly lower (or the same) payment while being able to decrease time on the loan. I agree fixed rate lets me sleep. I just watched The Big Short and one of the characters with a ton of loans in the Miami housing market says something to the effect of, "but the mortgage broker told me I could always refinance!"
Where the tides of fortune take us, no man can know.
harikaried
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Re: Another "should I refinance" thread

Post by harikaried »

Engineer250 wrote:I am not that familiar with ARMs to be honest. Isn't that what precipitated the housing crisis to a large extent? So it can adjust up 2 every 5 years? So in 5 years it could be 4.5. Then in another 5 years 6.5. What if I'm still in my house in 10 years
You'll need to check the details of the ARM. For PenFed's 5/5:
5/5 ARMs: Offers available for purchases and refinances. The initial rate can change by no more than 2 percentage points after the initial five year period and at each subsequent annual rate adjustment, never to exceed 5 percentage points above the initial rate.
So in the worst case for interest rate increases, you get 2.5% for the next 5 years then 4.5% for the next 5 then 6.5% for the next 5 and 7.5% for the remaining 15 years.

Specifically for your question of 10 years: at worst the rate will be 6.5% for the following 5 years where by the end of the 10th year, if you only made the required payments ($1,015/mo for the first 5 years resulting in $30,281 interest paid and remaining balance $226,353 then $1,258/mo for the next 5 years resulting in $48,005 more interest paid and remaining balance $198,869), the new monthly payments at 6.5% will be $1,483. This is $124 more than your current mortgage payments. That's probably what you were getting at with the housing crisis where potentially one wouldn't be able to pay the new higher rate.

But if you stay at the current 4.5%, in the next 5 years making a monthly payment of $1,359, you'll have paid $55,002 in interest and in total across the next 10 years, $103,322 in interest. Compared to the 2.5% then 4.5% of the ARM, you would have paid $24,720 extra interest in 5 years then paid in total $25,036 extra interest over the 10 years. (There's not as much additional extra interest from years 6-10 because it's the same 4.5% rate, but the principal balance is lower with the ARM in 5 years.)

Alternatively, if you go with the 2.5% ARM, you have the opportunity to pay additional principal each month because the monthly payments would be $344 less than the current payments for the 4.5%. If we say you save $100 for whatever you want and put $244 extra each month towards the mortgage, you would be making payments of $1,259/mo, so after 5 years, you'll have paid a total of $29,344 in interest and have a remaining principal balance of $210,776. When the rate adjusts in the worst case to 4.5% after the 5th year, the monthly payment would be $1,172, but if you now put an additional $87 each month (for the same total of $1,259/mo) still saving $100 for whatever you want, the next 5 years would have $44,079 interest paid leaving a balance of $179,341. If we assume the worst case adjustment to 6.5% after the 10th year, the new monthly payments would be $1,337, which is now lower than your current 4.5% monthly payments. So with the ARM after 10 years, you would have saved $100 extra per month, paid $29,899 less in interest, owed $17,914 less principal, and ended up with a lower monthly payment.
Engineer250 wrote:what if interest rates in 3-4 years from now go screaming up, then I have very few options to refinance.
If you're talking about what happens if you have a 2.5% 5/5 ARM and in 3-4 years the interest rates go way up, you would keep your 2.5% rate for the first 5 years including the 1-2 years after interest rates go screaming up. And after the 5th year, even though if interest rates went much higher, the most this ARM would adjust to is 4.5%.


There were a lot of numbers above because ARMs are more complicated than fixed rate mortgages, but they can provide for more flexibility and opportunity. And the worst case situation for interest rates might not happen and you might sell the house as you planned, so you could be quite a bit ahead.
Topic Author
Engineer250
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Re: Another "should I refinance" thread

Post by Engineer250 »

harikaried wrote:Alternatively, if you go with the 2.5% ARM, you have the opportunity to pay additional principal each month because the monthly payments would be $344 less than the current payments for the 4.5%. If we say you save $100 for whatever you want and put $244 extra each month towards the mortgage, you would be making payments of $1,259/mo, so after 5 years, you'll have paid a total of $29,344 in interest and have a remaining principal balance of $210,776. When the rate adjusts in the worst case to 4.5% after the 5th year, the monthly payment would be $1,172, but if you now put an additional $87 each month (for the same total of $1,259/mo) still saving $100 for whatever you want, the next 5 years would have $44,079 interest paid leaving a balance of $179,341. If we assume the worst case adjustment to 6.5% after the 10th year, the new monthly payments would be $1,337, which is now lower than your current 4.5% monthly payments. So with the ARM after 10 years, you would have saved $100 extra per month, paid $29,899 less in interest, owed $17,914 less principal, and ended up with a lower monthly payment.
Interesting and I will have to delve into the numbers and compare to my pillow index as many others put it. But I will definitely not be pre-paying the mortgage anytime soon. I have student loans and a car loan to get through first, and during and after that plan to put as much into cash/savings as possible. The house out of state will hopefully be the purchase of land and then building our own house. Since I don't know how hard it is to get a mortgage on a house that doesn't exist yet, I figure I will need as much cash as possible to cover it. If it turns out I am wrong I can always put more cash into one of the mortgages. But if I pre-pay the mortgage and then turn out to need cash I won't be able to reverse that decision. So any numbers for this refi need to be looked at as if I will DEFINITELY not be prepaying, and will also not be investing the money in anything that will make more than 1%.
Where the tides of fortune take us, no man can know.
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#Cruncher
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Re: Another "should I refinance" thread

Post by #Cruncher »

Engineer250 in original post wrote:I currently have ~$257k left on my mortgage with 27 years 10 months left @ 4.5%. ... Looks like I can get ~3.575% APR at $3580 closing costs ... Mortgage fellow on the phone didn't think it "made sense" since in 5 years from now my equity [?] would be $231k with existing loan and $235k if I took the refinance ... and with $26k [?] interest paid between now and then on existing loan and $43k on the refinance (I do itemize to offset that a little).
I think you mean to say "loan balance" in 5 years, not "equity". And the interest on the old loan over 5 years is much more than $26K.

Here are the results I get with these assumptions:
  • The term of the new loan is 30 years.
  • The $3,580 closing cost is added to the balance of the new loan.
  • Savings from a lower monthly payment are invested at 1%.
  • Mortgage interest is itemized resulting in a 25% reduction of income tax.

Code: Select all

                                   Old Loan    New Loan   Difference
                                   --------    --------   ----------
Rate                                 4.500%      3.575%
Loan months                             334         360
Months to evaluate after                 60          60
Initial Value                       257,000     260,580 
Monthly payment                    1,350.66    1,181.06      169.60 
Balance owed after 60 months        231,021     234,033
Value of 169.60/mo in 60 months                 (10,430) 
Net amount owed                     231,021     223,602       7,418
Interest paid over 60 months         55,060      44,316      10,744 
Tax savings @ 25%                   (13,765)    (11,079)     (2,686)
Net amount owed after tax           217,256     212,523       4,732 
Before tax you'd come out about $7,400 better off with the new loan after five years. Since interest would be much higher on the old loan, after taxes you'd only come out about $4,700 better off assuming a tax rate of 25%.

The above calculations use the Excel PMT and FV functions. For example,

Code: Select all

1,350.66  = PMT(4.5% / 12, 334, -257000,       0, 0)
 231,021  = FV( 4.5% / 12,  60, 1350.66, -257000, 0)
 (10,430) = FV( 1.0% / 12,  60,  169.60,       0, 0)
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