Refinance Now or Later? How to Know When the Time Is Right

Thinking about refinancing? With rates still fluctuating and more room to fall, now’s the time to start preparing.

Mortgage rates have dipped slightly from their late 2023 peak of nearly 8%, but for most people, they haven’t dropped enough to make refinancing a clear win—yet. That said, there are always exceptions. If you have a higher-rate mortgage or a specific financial goal, refinancing could still make sense in certain situations. Either way, keeping an eye on the market and getting your finances in order now could help you move fast when the right opportunity comes.

And if you’ve built up equity, a future rate drop could make a cash-out refinance more appealing for debt consolidation or home projects. While it may not be the perfect time to refinance for everyone, being ready could put you in the best position when the moment comes.

In this article (Skip to...)

• How refinancing works
• When to refinance
• Refinance break-even calculation
• Locking in the best refinance rate
• The bottom line

How refinancing works

When you refinance, you get a whole new mortgage. Its balance is the same or higher than your current loan. And most or all of your new borrowing goes to pay off your existing mortgage.

Cash-out refinance

If you borrow more than your old loan balance, you get to walk away with the difference in cash.

For obvious reasons, this is called a cash-out refinance. And you can use the money for any purpose, although most do sensible things with it, such as consolidate their debts or invest in home improvements that increase the value of your home.

Rate-and-term refinance

If you choose to refinance with a mortgage balance that’s the same or very close to your existing one, it’s called a “rate-and-term” refinance. The rate refers to the lower rate, which is your main motivation for changing your mortgage.

The word term applies because your new mortgage is likely to last a longer or shorter period than your current one has left to run. So, if you have plenty of cash left over at the end of each month, you might opt for a 15-year loan. This will have a higher monthly payment but will save you a pile in interest because you’re borrowing for half the normal time. And you’ll be mortgage-free in 15 years.

If, like most homeowners, you can’t comfortably afford the payments on a 15-year term, your new mortgage will typically extend your borrowing period.

Resetting the clock

Suppose you got your existing 30-year mortgage two years ago. And you replace it with a new, 30-year loan. You’ll be spreading your payments over 32 years instead of 30. In other words, you’re resetting the clock.

And that can, on its own, reduce your monthly payment. And the older your existing mortgage is, the bigger this effect is. If your current 30-year mortgage is 10 years old, and you’re replacing it with a new 30-year loan, you’ll be spreading your payments over 40 years (480 payments) instead of 30 years (360 payments). So, each payment can be smaller.

Of course, there are downsides to this. You’re borrowing a large sum over 40 years instead of 30. So, your total interest bill will be much higher. And you’re adding a decade to the time before you’re free of your mortgage.

Still, if you’re in a phase in your life when money is tight, you might prefer to focus on immediate savings rather than worry about the distant future.

Important considerations

When you apply to refinance, you’re essentially securing a new mortgage, which means you’ll work through some paperwork and steps similar to your original application. While the process may require time and effort, it’s a great opportunity to explore options that could better align with your financial goals.

Your mortgage lender will verify key details like your employment history, income, existing debt, and creditworthiness. If your financial situation has changed since your original application, it could impact your rate or eligibility, but lenders will work with you to find the best possible solution based on your current circumstances.

Should you refinance? Why closing costs can be critical

Closing costs vary widely. Lenders with lower closing costs may offer slightly higher mortgage rates, while those with higher closing costs often have more competitive rates.

To find the best option for you, it’s a good idea to get quotes from multiple lenders and choose the one that offers the right balance of closing costs and rates to meet your financial goals.

When should you refinance? When refinancing makes financial sense

Should you refinance? The answer’s usually yes when it makes financial sense.

How do you know whether it makes financial sense? By modeling different scenarios using our refinance calculator.

This will help you estimate savings you could make on your monthly payments by having a lower rate and by resetting the clock on your loan term. See how long it will take those savings to pay you back for your closing costs. This is called your break-even point, and the shorter it is, the more likely your refinance will make sound financial sense.

If your break-even point is many years ahead, don’t refinance unless you’re reasonably sure you’ll still own the house when you reach it. Otherwise, you’ll lose money.

Example of calculating your break-even point

Let’s run an example to illustrate whether a refinancing makes sense. We’ll assume that you got your mortgage back in October 2023, when the average mortgage rate was 7.63%. And you’re currently thinking of refinancing, when that average mortgage rate is about 6.85% per Freddie Mac’s weekly. Your mortgage balance is $400,000.

With those assumptions, your current mortgage payment (principal and interest) would be about $2,832 a month. After refinancing to that lower rate, that same payment would be $2,621 monthly.

That’s a saving of about $211 a month. This amount doesn’t seem like significant savings but it’s important that you do the math and check how many years it will take you to reach a break-even point.

Here’s how to calculate your break-even point:

1. Determine the total refinancing costs: These can include closing costs, appraisal fees, and other fees associated with the refinance. For this example, let’s assume the closing costs are 3% of the loan balance. Closing Costs = $400,000 X 0.03 = $12,000
2. Calculate the monthly savings:
   The difference in monthly payments is $2,832 (current payment) - $2,621 (new payment) = $211 in savings.
3. Calculate the break-even point:
   To find the break-even point, divide the total refinancing costs by the monthly savings: Break-even point = $12,000 / $211 = 57

This means it would take about 57 months, or roughly 4.75 years, to recover the refinancing costs through the monthly savings.

So, in this scenario, if you plan on staying in the home for at least 4.75 years, refinancing could make sense. If you’re planning on selling or moving before that, it might not be worth the cost.

When refinancing can save you money

Should you refinance now? Here are some common scenarios where the answer’s typically yes:

• Reducing a higher interest rate — The rule of thumb in the industry is that you can consider refinancing when you can shave half a percentage point off your existing rate (e.g. to 6.1% from 6.6%). But run your own figures through the refinance calculator
  
• Switching from an adjustable-rate mortgage (ARM) to a fixed-rate mortgage — For years, when mortgage rates were rising, that was often a smart move. But today, most experts expect those rates to keep falling. So, you may decide to stick with your ARM for now
  
• Shortening the loan term to pay off the mortgage faster — Switching to a 10-, 15- or 20-year term can save you a bundle in the long term. But can you afford the higher monthly payments?
  
• Tapping into home equity for home improvements or debt consolidation — Sometimes, an urgent need for cash overrides long-term considerations

Refinancing isn’t free. And you should only do it if it delivers a tangible financial benefit.

How to lock in the best refinance rate

When you’re offered a mortgage, you’re typically quoted a mortgage rate. That then floats up and down (often a couple of times each day) in line with general mortgage rates until you decide to lock it in.

How can you know when is the best time for you to lock your refinance rate? You can’t. Nobody knows the future.

But we have an expert who monitors mortgage rates every day and closely follows the economic indicators that affect them. He can’t always be right, but his expertise means he’s likely to be a better guide to the direction mortgage rates will take than you are.

You can follow his daily advice on our Mortgage Rates Today page.

Besides choosing a good moment to lock your rate, the best way to get the lowest mortgage rate for which you’re qualified is to shop around. Ask several lenders for quotes and then compare their offers. You’ll likely be amazed by the wide variations in rates and closing costs.

Of course, the deals you’re offered will be better or worse depending on how attractive a borrower you are. To them, an attractive borrower has:

• A high credit score
• Manageable existing debts
• A steady income stream
• A good-sized down payment (or retained equity, which is the equivalent when refinancing)
• Overall, the ability to comfortably afford the new mortgage payments

If you have time before you need to apply for a refinance, try to raise your credit score and reduce your debt burden. Doing so could earn you a lower mortgage rate and closing costs.

The bottom line: Should you refinance now?

If you can get a mortgage rate that’s appreciably lower than your existing one, you’re likely to benefit from refinancing. You should see your monthly payments drop.

Alternatively, you may have a pressing need for cash. Even if this means a higher monthly payment and a greater total cost of borrowing, you might legitimately choose to accept those in order to address an urgent, unavoidable problem.

Use our refinance calculator to model your needs. That should help you get into the ballpark. Then, shop quotes from multiple lenders. Choose the one that most benefits you financially.

A good place to start is a chat with your mortgage lender or financial advisor. They’re well-placed to provide helpful advice. And, with luck, you could soon find your household budget looking a whole lot healthier.