Is it time to refinance?

Greg Maravilla, MBA, CPA, CFP® | CFO Advisor / Partner

  As the stock and bond market signal recession and the Federal Reserve having recently dropped its fed fund rate, we are likely to see bank interest rates doing lower.  30-year mortgage rates are now around 3.7% and practice loans are in the low 4%.  As a result, if you have existing debt, you might consider refinancing to save on interest expense.  Is it worth it?  Some things to consider first:  
  1. Prepayment penalties – practice loans in particular can have prepayment penalties that reduce the benefit of any refinancing, so review your loan documents for these.
  2. Remaining term – if you only have a year or two left on your loan, the savings may not be worth the several hours of gathering documents for relatively small savings.
  3. Origination fees – mortgage loans in particular can have a origination fees between $0 and a few thousand dollars, even on refinanced loans.  Gauge if that expense is outweighed by the effort and savings.
  4. What the future holds – rates could continue to decline, or go up.  You might be kicking yourself if you refinance now and range go down another 100 basis points (1%).  Or you might regret not doing it now and rates go up.  No one has a crystal ball for this though.
  5. Cash flows – if you refinance and loan with the same term as the original loan, your payment may in fact go down because you’re effectively restarting the loan’s timeclock but at a reduced principal amount.  But if you were to convert from a 30-year mortgage to a 15-year, your cash outlay may go up.
  6. Your credit score – you may have a hard time refinancing at a favorable rate if you FICO score is less than 680, so use an app like Mint.com or CreditKarma.com to get a free look at your credit score to decide whether it’s worth putting an application in or not.  If you have a low credit score, your time may be better spent trying to bring your score up.  A good financial planner can give you ideas to help.  Also keep in mind that when applying for credit, they do a “hard pull” of your credit (junk mailers do a “soft pull,”, one that you didn’t ask for) and the number of hard pulls impacts your score negatively.
  7. Future financial moves – if you have a lot of student debt, it may be very tempting to refinance and gets rates below 6.5 to 7%.  But if you are on IBR (Income-based repayment plan), your monthly payment may go up if you refinance, because your new lender will likely be private and not permit IBR.  The higher fixed payment amount may adversely impact other financial moves you plan to make, such as buying a practice or a house.
  The chart below show the lifetime interest on a 10-year loan across its full term, varying by original loan amount and interest rate.  This might give you a sense of how much term, rate, and remaining balance really impact interest costs, and therefore how much you stand to save based on an interest rate drop.  By subtracting two cells in the same column, you can calculate the interest savings.  
Lifetime Interest on a 10-Year Loan
Original Loan----->          $200,000          300,000          400,000          500,000
Rateà3.5%            36,636            54,954            73,272            91,590
4.0%            42,181            63,272            84,362          105,453
5.0%            53,501            80,251          107,002          133,752
6.0%            65,124            97,685          130,247          162,809
7.0%            77,044          115,566          154,089          192,611
8.0%            89,258          133,887          178,516          223,145
  For an evaluation of your specific debt situation, contact your financial planner.
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