Is a No Cost Refinance Right for You?
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by: marciafreeman
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A no cost refinance sounds like every borrowers dream: a home mortgage with no extra fees. If you do not have much money saved to spend upfront when you take out the mortgage, getting rid of all the extra fees can sound like it would save you a lot of money. But is that how it really works?
The problem with a no cost refinance, just as with so many types of refinance that look good at the beginning, is that the lender recoups the money it loses on fees by charging you a higher interest rate. A traditional refinance usually has a lower interest rate than a no cost refinance. Over the long run, the added interest payments can cost you more than simply paying the fees would have. (However, either way you would probably have paid more if you had not refinanced at all.)
Because of this trap, many refinance experts tell their clients to avoid a no cost refinance unless they can pay it off quickly, reducing the financial impact of the higher interest rate. There are also several other reasons you might want to take a no cost refinance with a higher interest rate. Perhaps you do not have the money to cover higher closing costs now, but you foresee improved income in the near future and want to take advantage of lower interest rates now. Or perhaps the higher interest rate offers tax advantages that offset the higher monthly payments. You may even find a no cost refinance that comes with an interest rate low enough to be competitive, especially if you foresee that interest rates will rise considerably before you have the cash on hand to do a traditional refinance. Getting a good deal in refinancing, just like buying real estate or taking out a first mortgage, relies on timing and your personal situation as much as on the results of any financial formula.
So is a no cost refinance right for you? Consider all your options and test your offers in a mortgage calculator. Realistically determine whether you will be able to pay higher monthly payments or add a little money to each lower monthly payment to shorten the term of your refinanced mortgage. Consider whether there is a less expensive way to raise the money for the refinancing fees. If a no cost refinance is indeed your best option, go into it with a full understanding of the pros and cons of this kind of refinancing. Used the right way, a no cost refinance can be an excellent financial choice.
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