Should You Roll Closing Costs into a Refinance: A Comprehensive Guide
Introduction
When considering a refinance, the decision of whether to roll closing costs into your new mortgage can significantly impact your financial situation. While many companies advertise no-cost refinance options, it is crucial to understand what these terms mean and how they can affect your long-term finances. In this article, we will explore the pros and cons of rolling closing costs into a refinance, providing you with the knowledge to make an informed decision.
Understanding the Term ‘No Cost Refinance’
Many advertisements promise a no-cost refinance, but what does this really mean? In many cases, what is being advertised is not a no-money-out-of-pocket refinance but rather the rolling of closing costs into the loan. This means that the closing costs are added to the principal amount of your mortgage, and you will be required to pay interest on these costs for the duration of the loan term.
For example, if you have $3,000 in closing costs, these costs would be added to the principal amount of your new mortgage. Instead of recurring as a one-time fee, you would be paying interest on those $3,000 for the life of the loan. The additional interest could significantly increase your total cost of the refinance over time.
Key Factors to Consider
When deciding whether to roll closing costs into a refinance, several key factors should be considered:
1. Loan Term
The loan term is a crucial factor. A 30-year mortgage, for instance, will have a longer timeframe for repayment. If you plan to stay in the property for a long period, rolling the closing costs into the loan might be a smarter financial move. However, if you plan to sell or move within a short period, the added interest could negate the benefits.
2. Your Financial Goals
Another important consideration is your financial goals. Do you need to lower your interest rate, shorten your loan term, or obtain a different type of loan? Each of these goals might impact your decision. For instance, a lower interest rate could save you more in the long run than interest on additional closing costs.
3. Comparison with No Money Out of Pocket Options
Consider evaluating the total cost of each option. While a no-money-out-of-pocket refinancing might seem more attractive initially, the long-term financial implications could make it less favorable. This is especially true if you plan to stay in the home for a shorter period.
Personal Example
I recently refinanced my personal residence, which was paid off in full. I obtained a loan of 50% of its appraised value, thereby financing the closing costs but receiving a slightly smaller check at closing. While I was willing to do this, it was because I planned to sell within three years and would then repay the mortgage in full.
My interest rate is currently 3%, and I am comfortable with financing the costs for that period. The remaining money is being invested and earning a return at a rate higher than 3%. Had my financial goals been different, I might have approached the decision differently.
Conclusion
Ultimately, whether you choose to roll closing costs into a refinance depends on your individual circumstances. While a no-money-out-of-pocket option might seem appealing, it is essential to consider the total cost over the long term and your financial goals. Consulting with a financial planner can provide valuable insights and help you make a well-informed decision.
Congratulations on taking the time to ask this important question, and we hope this guide has been helpful in guiding your decision-making process.
Key Takeaways:
Rolling closing costs into a refinance can increase your total interest and costs over the life of the loan. Consider your loan term, financial goals, and the total long-term cost. Consult with a financial planner for personalized advice.