With mortgage rates still on the rise, it may seem a tad premature to be talking about the next refinancing wave. But it’s just around the corner.
Well, not exactly a wave. A third of America’s homeowners traded in their original, high-rate loans in 1992 and 1993 for mortgages with more manageable payments.
But just as soon as rates begin turning down once again-some economists expect that to occur sometime around mid-1995-people who bought homes at the top of this latest interest-rate cycle can begin refinancing.
They won’t have to wait until rates fall at least two percentage points before refinancing makes sense. Now that the no-point, no-fee, low-cost refi has become a permanent part of the mortgage menu, they can begin cutting their payments when rates dip as little as 0.5 percent.
“With the no-point loan, there’s no excuse for anyone not to refinance” when rates start falling, says Kirk Allison, a loan officer for Prudential Home Mortgage in Minneapolis. “There are some closing costs involved, but they’re so minimal there’s no reason to delay.”
The no-point loan came into being during the last refinance binge when mortgage lenders became desperate to build-or, in some cases, keep-market share. But the boom, the fourth in the last three years, ended in October 1993 when rates started to rise.
They’ve been rising ever since, and now are just above 9 percent. Worse yet, some economists think they could go as high as 9.5 percent before they stop climbing.
But higher rates haven’t stopped many people from buying homes. Indeed, sales of both new and existing houses have held up fairly well. So well, in fact, that 1994 should go down as the second-best year ever for sales of existing homes.
The key to refinancing always has been how long you plan to remain in your home. Generally, the longer you stay, the better it is to refinance.
Simplistically, for example, if it cost $2,000 to refinance and you saved $50 a month, it would take 40 months to recoup your expenses. Consequently, if you were going to stay only three years, refinancing wouldn’t be worth the effort. But if you were going to stay indefinitely, you’d be wise to go ahead.
Of course, this implies that you have enough cash on hand to pay the up-front fees-points, appraisals and other charges-which often were hefty. That’s why it was advisable to wait until rates dropped at least two percentage points.
If you acted too quickly, the reasoning went, it would take too long to recoup your costs. Or, put in another way, the savings wouldn’t be great enough to incur such a large expense.
But thanks to the no-point refi, that’s all ancient history.
Nowadays, it’s “economical for borrowers to refinance as often as they can stand the hassle,” says Jon Holm, an analyst with the MGIC Investor Service Corp., a division of the Mortgage Guaranty Insurance Co. “Now, a borrower can take the plunge as soon as rates drop as little as a quarter or half-a-point. . . . It will not take much in the way of a rate decline to open the window of opportunity.”
The no-point refi is sometimes called the “no-cost” refi, but that’s a terrible misnomer. There are costs, but they are being incurred by the lender, not you.
Consequently, with a no-point refi, you won’t be able to obtain the lowest rate available. You can only do that if you pay the up-front fees yourself. And that, to reiterate, can be expensive.
But the rate you get shouldn’t matter, as long as it’s lower than your current rate and as long as you can put up with the reams of paperwork and stacks of verifications.
Say, for example, that it costs you a total of $500 to refinance with a no-point loan. If your savings is $50 a month, then you’re ahead of the game after 10 months.
If you opt for the lowest rate, your savings might be $100 a month. But your out-of-pocket expenses might be $2,000 or so, so it would take twice as long to break even.
More importantly, you won’t blow your entire bankroll with a no-point loan. You’ll still have a nice little nest egg. So if rates are still falling after you reach the break-even point, you can refinance again.
Indeed, with a no-point loan, you can refinance as often as you like until the downward spin runs out of steam. You may miss out on obtaining the lowest possible rate available. But you’ll still come out ahead.
And that’s another reason the no-point refi makes sense. Previously, borrowers pretty much had to guess when rates hit rock bottom so they could achieve as big a savings as possible. But anyone who has ever followed mortgage rates knows that’s a big gamble.
If they guessed wrong, they still would have saved something. But because they’d already placed their bets, they wouldn’t be able to refi again if rates went even lower-unless, that is, they had enough cash on hand to pay another round of loan charges and fees.
With a no-cost refi, on the other hand, there’s no need to play interest-rate roulette. Your out-of-pocket is so small that you can refinance repeatedly. Again, you won’t receive the lowest rate possible, but your overall savings could be more substantial.
About the only buyers who won’t be able to take advantage of no-cost refis when rates begin receding are those who put up only minimal down payments.
In most cases, lenders insist that homeowners wanting to refinance have at least 10 percent equity in their houses. That is, if you want to take out a new $90,000 mortgage, your house must be worth at least $100,000 or most lenders won’t talk to you.
So if you take out a 95 percent loan now, it’s extremely doubtful that you will be able to build up enough equity to refi anytime soon.
Because mortgages pay down so slowly in their early years, you’ll have to rely almost entirely on price inflation to boost the value of your place. And in most markets today, prices are creeping upward very slowly.
