Cost of Refinancing

Your refinancing cost is the total of any points, closing costs, and private mortgage insurance (PMI) premiums that you pay when you take out the new loan. In addition, any lost tax savings must also be regarded as part of the cost of refinancing. There are times when lenders offer "no points, no closing costs" refinancing deals. Check the terms of the offer carefully to make sure that you understand what's involved. Points are prepaid fees. One point equals 1 percent of the amount you're borrowing, and any points you're charged are usually deducted from the mortgage proceeds you receive. Mortgage lenders typically charge one point as a loan origination fee. Beyond that, lenders may charge additional points on loans with interest rates below the current market rate. By doing so, the lender makes a little more money up front, and you get a lower interest rate on your mortgage.

So, if you're going to stay in your house for a long time and can afford to do so, paying more points in the beginning may get you a better interest rate and save you more money in the long run. Your closing costs include a variety of fees, such as an appraisal fee, a title search fee, recording fees, and other fees associated with processing and finalizing your mortgage. If your loan-to-value ratio is greater than 80 percent of the appraised value of your property, you may also be required to carry PMI. The premiums for this insurance usually become a portion of your new monthly mortgage payment and thus reduce your savings from refinancing. In addition, you may discover hidden costs. For example, if you're paying less interest on your new mortgage, you'll have less to deduct on your income tax return. If this makes your tax payments higher, your savings will be further offset. Once you've determined what your refinancing costs will be, you can then determine how long it will take for your refinancing to pay for itself. To do so, divide the total of the points and closing costs that you paid by the net monthly savings that the new loan provides you. Your net monthly savings will be your interest savings less any PMI premiums and tax advantage losses expressed as monthly figures.

For example, assume you refinanced $200,000. You paid two points and total closing costs of $1,800. You got a great interest rate on the loan, so you'll save $80 a month in interest charges. However, your PMI premiums are now $10 per month higher, and you've lost tax savings of $120 a year, or $10 per month. Your refinancing costs are $3,800--two points of $1,000 each and $1,800 in closing costs. Meanwhile, your net savings are $60 per month--$80 per month saved interest less $10 per month increased PMI premiums and $10 per month lost tax savings. If you divide $3,800 by $60, you'll find your refinancing will pay for itself in a little over 63 months.