Refinancing your VA loan might seem like a great idea, especially when you can save money. Most of the time it is a great idea, but there are some things you may want to consider first. Keep reading to learn the top things you should understand before you decide.
What’s the Rate on your VA Loan?
This is probably the most obvious thing to consider. It used to be a common belief that you needed to drop your rate at least 1% in order for it to make sense. That’s not always the case, even on a VA loan.
Let’s take for example a $240,000 loan with a 5% interest rate that you could refinance into a 4.5% interest rate.
You would save $72 a month on the payment as the 5% rate has a $1371 payment and the 4.5% rate has a $1,299 monthly payment. That’s not a major difference. You would save $864 a month, though and $25,920 over the life of the loan in interest. Now those are some numbers worth considering!
What’s the Cost?
The real concern regarding a refinance is the cost. Every loan costs money. Even if you can get a no-closing-cost refinance, you pay for it. Lenders charge a higher rate for this type of loan, which may make help you make up your mind. The savings might not be great enough.
Assuming you pay the costs, you should look at the total cost of the loan. You then compare that amount to how much you save. It’s called the break-even point. It’s the point when you ‘recoup’ the closing costs and start realizing the savings. For example, if you save $200 a month, but you paid $10,000 in closing costs, it would take you 50 months to recoup those costs.
Once you know the costs and the time it would take you to break-even, you should consider if it’s worth it. Will you still be in the home when you start realizing the savings? If so, for how long? If it’s for say one year, it still might not be worth it even though the lower monthly payment makes it seem worthwhile. Looking at the big picture can really help.
What’s the Term?
Again, even if you save quite a bit of money every month, you have another factor you should consider – the term. Let’s say you have a 30-year term now, but you’ve paid 10 years on it already. You see that rates dropped and realize you can save $150 per month. It sounds great – who wouldn’t want to save that much each month? But, you would be restarting your term. In other words, those 10 years you just paid on your loan are now gone. You would pay them all over again rather than owning your home free and clear in 20 years.
In order to determine if it makes sense, you’ll need to determine how much principal and interest you’ve already paid. Look at your amortization table from your closing documents or use a mortgage calculator to determine how much interest you’ve already paid into your current loan.
Next, determine the full cost of the new loan. How much interest will you pay over the life of the loan? Add that to the principal balance you borrow plus the money you already paid into your current loan. Finally, compare this amount to the full cost of the original loan (principal and interest) over the life of the loan. If the refinanced amount is lower, it still makes sense to refinance even if you add a few years back onto your loan’s term.
Are you Touching the Equity?
The final factor to consider is the equity. Are you going to take money out of it? If so, what’s your reason? It only makes sense in certain situations – most of which have to do with the home. Let’s say you want to make home improvements that will increase the value of the home. Taking money out of the equity may make sense then, because you’ll recoup your investment rather quickly.
If, however, you need the money to go on vacation or pay for medical bills, you may have some more factors to consider. The interest and closing costs are among the most important factors. You can’t borrow the money for nothing. You will pay interest and typically closing costs as well. You also have the equity that you’ll lose to consider. Was this your retirement money? Do you plan on moving any time soon? If so, you’ll lose out on that cash instantly.
Comparing all of your options and asking the lender for the big picture will help you understand what you should do. If often does make sense to refinance your VA loan, especially if you can save money over the life of the loan. You’ll have the funding fee to consider, but it’s minimal with a refinance, especially the streamline refinance which only costs 0.5% of the loan amount.
Shopping around with different lenders will give you a perspective of where you should be with your loan. Not all lenders charge the same rates and fees. If you don’t save much with one lender, check with another, you might be surprised to see the difference in rates and/or costs that they charge. Finding the loan that works best for you is your best bet for your financial future.