Keep Calm and Refi Your Mortgage

Over the last month or so, many of us have felt, even if just for a moment, like the world is coming to an end. One apocalyptic news headline after another, producing an endless stream of severe anxiety.

In what has often felt like a dystopian storyline for a future Netflix series, we have seen images of nearly empty streets on Manhattan’s always-bustling grid, makeshift morgues in refrigerated trucks, triage tents in Central Park, and a massive Navy hospital ship anchored in the Hudson River. And that’s just in NYC.

As of this writing, more than twice the number of people has died from COVID-19 in New York State than the total number of victims on 9/11. Most of us know someone who either has tested positive, gotten sick from the virus, or has died from it. For those of us lucky enough to have remained healthy, we have had to quickly get used to the “new normal” of social-distancing, “stay-at-home” orders, closed parks and cafes, and kids stuck at home day after day due to school closures, while their parents desperately try to get some (any!) work done from home. That is, if the parents still have their jobs. In the last 3 weeks, over 16 million Americans filed for new unemployment claims!

So why I am starting this post off on such a depressing note, especially when these are all well-known facts? Because in the middle of a pandemic and in a world with 24/7 social media and TV news feeds, it’s very easy to get sucked into the negative vortex of negative news and to turn into the proverbial ostrich with its head in the sand.

A Silver Lining:

My goal here is to offer you a small but important silver lining to the crisis we are all living through: You may be able to save a significant amount of money every month on your mortgage payment if you refinance.

If you own a home and have a substantial mortgage balance left on it, this is a great time to speak to an experienced local lender about your refinancing options. That’s because the global pandemic has led to a financial and economic crisis of epic proportions. The stock market has tumbled, the economy has nearly come to a screeching halt, and millions of people – from waiters to theater performers to software engineers have lost their jobs.

In response, the Federal Reserve has lowered the federal funds rate to an unprecedented (in the US, at least) zero percent (technically, the target rate is 0%-0.25%). The Fed has also pumped a ton of liquidity into the mortgage market by promising to buy an unlimited amount of mortgage-backed securities.

This has driven 30-yr mortgage rates on conventional loans to historic or near-historic lows. A few of my clients that are under contract to purchase properties have locked in 3.25% very recently.

Of course, this post is not about buying a property in this environment (a topic that deserves its own post) but about refinancing a loan on an existing property. The goal, of course, is to reduce your monthly overhead and improve your cashflow position. Because in times of severe crises, “cash is king” and every dollar not paid to the bank in the form of a mortgage payment is a dollar of additional liquidity at a time of unprecedented uncertainty.

I am not just writing about this conceptually. I’m taking my own advice. My wife and I are closing on a refi of our primary residence (a 2-family home in Bayonne, NJ) later this month. We locked in a rate of 3.25%, a full 75 basis points (or 0.75%) lower than the rate we locked in last spring when we bought the house.

A closer look at my numbers:

Our monthly payment since we closed on the house last year has been $3,412. This includes principal, interest, mortgage insurance (we put down significantly less than 20%), property taxes and home insurance. This was based on the 4% 30-yr rate we locked in last year. Of that dollar amount, principal and interest payments added up to $2,222.

Now, our new monthly payment will be $3,189, a savings of $223 per month! The new principal and interest amount will be $2,045, a savings of $177 a month.

A quick aside about PMI:

The rest of the savings ($46) is due to lower PMI (“private mortgage insurance” lenders charge if you put down less than 20% when you buy a primary residence), since we forced significant property value appreciation through renovations and have increased our equity position as a result.

Our LTV is lower now that when we bought the home last year (“loan-to-value” is the loan balance as a percentage of the property value), thus, the mortgage insurance premium is lower because the new loan is less risky for the lender to underwrite, since we have more equity in the home and thus more “cushion” if property values were to drop and we were to fall behind on our mortgage payments.

The Refi Nitty-Gritty:

We closed on our home at $485,000 last June, putting down 5%. The lending rules have since changed, and you’d have to put down at least 15% on a 2-family, owner-occupied home if you’re looking for your next “house hack” and planning to obtain a conventional loan. That said, you could potentially get an FHA loan and put down as little as 3.5%.

This month, our house appraised at $560,000, meaning that our equity in the home has increased by $75,000 in less than a year. Granted, we spent around $65,000 on renovations, so that means we’ve “forced” about $65,000 of home value appreciation and the other $10,000 was due to the area appreciating.

Our total monthly savings after the refi are nothing to sneeze at, especially in this highly uncertain environment. Over the course of a full year, we will have saved $2,676. 5 years: $13,380. 10 years: $26,760. You get the point. Yet, to quote the timeless words of Cat in the Hat, “but that is not all! No, that’s not all!”

Savvy readers are probably wondering, “but Max, don’t you have to pay closing costs when you refinance your mortgage?” Yes, you do. But if you work with an experienced lender, he or she should be able to wrap your closing costs into your new loan, so that your out-of-pocket cash outlay on the refi is zero.

As a NJ homeowner, my original closing costs totaled around $14,000. With this refi, some “soft” closing costs were waived by my lender (Loan Depot), bringing the new closing cost total down to around $10,000. That, of course, means that our new principal balance will increase by about $10,000 (since we are wrapping the closing costs into the new loan).

Note: If you own property in a state other than NJ, your closing costs may be very different, so consult a qualified lender who is familiar with your market.

Now, let’s look at a simple ROI calculation on this:

I am increasing my principal balance by $10,000 while saving $177 a month on lower principal and interest payments. To be conservative, I am not counting the savings from lowering my monthly PMI, since those savings wouldn’t exist had my wife and I put down 20% initially.

$177 times 12 months equals an annual savings of $2,124 just in lower principal and interest payments. If I divide that by my $10,000 “investment” (in the form of an increased mortgage principal balance), I get an annual rate of return of 21.24%. Beat that S&P 500!

Let’s look at it another way:

If I make exactly the minimum required mortgage payment each month on my new loan of $470,000 at 3.25%, I will have paid $266,369 in total interest payments over the 30-year life of the loan. But if I hadn’t refinanced, I would have paid $334,553 in total interest payments of the 30-year life of my original loan ($465,600 loan amount at 4%). [To clarify, we have paid down the original loan amount from $465,600 to just under $460,000 in the first 10 months of the loan’s life.]

In other words, I will have saved a whopping $68,184 in total interest paid to the lender over the course of the 30-year life of the loan simply by refinancing from a 30-yr loan at 4% to a 30-yr loan at 3.25%. And that’s after accounting for the increased principal balance of $10,000 from wrapping my refi closing costs into the new loan. By the way, you can use any of the mortgage calculators online to run these numbers on your own home. I personally like mortgagecalculator.org. Just make sure you check all the fields before hitting “Calculate”.

To me, a refi was a no-brainer, which is why I jumped on it as soon as mortgage rates fell.

So, dear reader, if you’re reading this post and you own a property (or multiple properties) with outstanding mortgage balances, have you taken time away from the horrible news headlines to look at your refinancing opportunities?

You may be surprised to discover how much you can improve your monthly cashflow position (and overall financial health) with a simple mortgage refi – whether you live in NJ, Cali, or Texas.

The best thing to do is to reach out to your lender, if you already have a good relationship with one. If you are (or were) in contact with more than one lender, reach out to all of them and shop around for the best terms. If you don’t have a good lender you can reach out to, send me a private message, and I’ll put you in touch with my go-to mortgage professionals (who specialize in the NJ market).

A final note on rates:

The Mortgage market has been extremely volatile, with rates ping-ponging not just day-to-day but sometimes intra-day, so the numbers I referenced above may no longer be applicable when you contact a lender. That volatility will likely remain for the foreseeable future. So, it would be wise to reach out to lenders today and just start the conversation and run the numbers. If the savings aren’t worth it today for you, revisit the conversation next week or next months, if rates move in your favor.

Now go out there and save some money!