Refinancing
Quick Definition
Replacing an existing loan with a new one, typically to obtain a lower interest rate, different term, or access equity.
Key Takeaways
- The general rule is to refinance when you can reduce the rate by 0.75-1% or more
- Calculate the break-even point: closing costs divided by monthly savings
- Refinancing to a shorter term (30 to 15 years) builds equity faster despite higher payments
- Cash-out refinancing converts home equity to cash but increases your loan balance
What Is Refinancing?
Refinancing is the process of replacing an existing loan with a new loan that has different terms, most commonly to secure a lower interest rate, reduce monthly payments, change the loan duration, switch from a variable to fixed rate, or access home equity through a cash-out refinance. The refinancing process involves a new application, appraisal, underwriting, and closing, with associated costs (typically 2-5% of the loan amount). The break-even point — the time required for monthly savings to offset closing costs — is a critical calculation for determining whether refinancing makes financial sense. Rate-and-term refinancing adjusts the loan terms, while cash-out refinancing converts equity into cash for other purposes.
Refinancing Example
- 1Refinancing a $300,000 mortgage from 7.5% to 6.0% saves $318/month and $114,000 in total interest over 30 years.
- 2With $4,500 in closing costs and $300/month savings, the break-even point is 15 months — refinancing makes sense if staying 2+ years.
- 3A cash-out refinance on a $500,000 home with $200,000 remaining mortgage provides $100,000 cash (at 80% LTV) for home renovation.
Related Terms
Mortgage
A loan secured by real property used to purchase a home, typically repaid over 15 to 30 years.
Home Equity
The portion of a home's value that the owner actually owns, calculated as market value minus outstanding mortgage balance.
HELOC (Home Equity Line of Credit)
A revolving credit line secured by home equity that allows borrowing as needed up to a set limit.
Fixed vs. Variable Rate
The distinction between loan interest rates that remain constant (fixed) versus those that fluctuate with market conditions (variable).
FAFSA (Free Application for Federal Student Aid)
The federal form used to determine eligibility for financial aid including grants, loans, and work-study programs.
401(k)
An employer-sponsored retirement savings plan with tax advantages, often including employer matching contributions.
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