Home Mortgage Refinancing

Home mortgage refinancing can save you money or get you into trouble. The lure of lower interest rates and monthly payments may look good, but you have to understand the risks.

In general, you should avoid refinancing your mortgage if you’ll waste money and increase risk. It’s easy to fall into the traps below, so make sure you steer clear of these common mistakes.

Extending a Loan’s Term

When you refinance, you often extend the amount of time you’ll repay your loan. For example, if you get a new 30 year loan, payments are calculated to last for the next 30 years. If your old loan only had 10 or 20 years left to go, home mortgage refinancing will result in higher lifetime interest payments.

When you get a new loan, most of your payments go towards interest in the early years, and you’ll start from scratch. Plug the numbers into a loan amortization calculator to see how your total interest costs will change.

Closing Costs

Home mortgage refinancing costs money. You’ll pay fees to your new lender to compensate them for offering the loan. You may also pay for legal documents and filings, credit checks, appraisals, and more.
Even if a loan is advertised as a "no closing cost" loan, you’re paying those fees. Generally this happens through a higher interest rate.

Debt Consolidation

You can use home mortgage refinancing as a strategy to consolidate debts. Sometimes this helps because you reduce interest rates on your debt, and you may be able to turn consumer debts into tax-deductible home equity debts. This can backfire if you:

• Simply shift the debt and rebuild your consumer debts again
• Are unable to get tax benefits from home mortgage refinancing
• Are unable to pay the larger loan balance and risk losing your home

If you’re having trouble paying consumer debts, think twice before putting your home on the line.

Recourse Debt

In some states, home loans have special protection from creditors. In the event of foreclosure, they may not be able to sue you if they lose money on the deal. However, home mortgage refinancing changes the nature of your loan: it’s no longer the original loan you used to purchase your home, so you may lose some protection.