Refinancing

QUESTION: I am considering refinancing my current loan. I have been reading that interest rates have dropped from the rate of my current loan, and I think that I can reduce my monthly payments by several hundred dollars. However, I am concerned that there may be many fees involved in refinancing. Is there any specific formula for calculating whether a refinance will be worth the expense? Also, what expenses should I expect?

ANSWER: As interest rates drop below your present rate, you should certainly consider refinancing your existing loan. There are many theories as to when a refinance is appropriate. The old rule was that you should reduce your current interest rate by two (2) percentage points. In addition, within approximately twenty-four (24) months from the date of your refinance settlement, the older theory was that you should have saved enough money from the reduced mortgage payments to cover all of your settlement costs. In other words, if your total settlement costs are Two Thousand Four Hundred Dollars ($2,400.00) and you are able to reduce your payments by Two Hundred Dollars ($200.00) per month, you would have made back all of your expenses in twelve (12) months. However, you should understand that these are somewhat general rules and may not necessarily apply in your case. In fact, you may be interested in solely reducing your monthly payment or converting an adjustable rate loan to a fixed rate loan. Therefore, you should not worry about any specific rules but should, instead, do what best fits your financial situation.

Regarding the settlement costs, you will find that most of the expenses incurred at settlement are similar to those at a regular purchase settlement. In that regard, you may want to refer to the sample Closing Disclosure on page 28-33 of our free book Ask the Lawyer for a description of the specific charges. There are some ways to save on the settlement costs and these are discussed below.

Under the new title insurance rules, you no longer need to present a copy of your Owner’s Title Insurance Policy in order to obtain the discounted Re-issue Rate for a refinance. Instead, the Refinance Rate will be utilized. Sample rates can be found on page 38. Also, rates can be calculated on our Title Insurance Premium Calculator.

It is also possible that your new lender will require a house location survey. However, if you can provide a survey (from a prior settlement) and you have not made any changes to the property (such as installing a fence, deck, porch, or swimming pool), then the survey requirement may be waived. To obtain this waiver, you must be prepared to sign an affidavit stating that no such changes have occurred. This affidavit will be prepared by Village Settlements, Inc.

Regarding transfer taxes, most jurisdictions in Maryland do not require you to pay new transfer taxes at the time of your refinance settlement. However, in most jurisdictions, you must pay the State Revenue Stamps (this amount varies by county) on the new money being borrowed. In other words, you will only be responsible for paying revenue stamps on the difference between the outstanding principal balance of your existing loan and the principal balance of your new loan. Thus, if you owe Ninety-Five Thousand Dollars ($95,000.00) on your current loan and you are borrowing One Hundred Thousand Dollars ($100,000.00) on your new refinance loan, you would only pay State Revenue Stamps on the Five Thousand Dollar ($5,000.00) difference.

Since you will not be required to pay the transfer taxes on a refinance and you should be able to save money with the above-described cost saving tips, you will find that the overall expense for a refinance will be less than for a regular purchase settlement. Regarding the settlement procedures, it is important that you follow your lender’s instructions carefully because you may be required to obtain certain documentation in advance of settlement, such as proof of a homeowner’s insurance policy. You will also want to verify with your new lender whether they will require you to pay money in escrow for taxes and insurance. While it is likely that you will have to place money in escrow with your new lender for taxes and insurance, the funds which you have been paying to your prior lender for taxes and insurance will be refunded to you within two (2) to four (4) weeks after the payoff of your existing loan. Therefore, when calculating your settlement costs, you should take into consideration the fact that you will be receiving a refund of your escrow account.

Finally, if you are paying off an older FHA loan, you should check with your existing lender to determine whether any notification rules or pre-payment penalties apply. Generally, you must give your prior FHA lender written notice of your intention to payoff the loan.

Your decision to refinance should be based on many factors, including the reduced monthly payments, the term of the loan, the interest rate, and the overall expense of settlement. However, in most cases, you will find that the benefit of receiving the lower interest rate or monthly payment will far exceed the initial outlay of settlement costs.