Question: Looking for advice to lower our mortgage payment. Have looked into recasting but was unsure how smart this is since the length of the loan doesn’t change. Does the amount of interest change? We would foremost want the monthly payment to be much smaller but it would also be nice to shave off some years as well. I am also aware of paying some principal off by making extra payments but am curious if you can do multiple things if you had some extra money to put down?
Answer:
How to Lower Your Mortgage Payment and Potentially Reduce Your Loan Term
If you're looking to lower your monthly mortgage payment and possibly reduce the length of your loan, you have several options to consider. Let's explore mortgage recasting, refinancing, making extra principal payments, and combining these strategies to help you make an informed decision.
1. Mortgage Recasting
What Is Mortgage Recasting?
Mortgage recasting is a process where you make a lump-sum payment toward the principal balance of your mortgage, and your lender recalculates your monthly payments based on the new, lower balance while keeping the same interest rate and loan term.
Does the Amount of Interest Change?
Yes, the total amount of interest you'll pay over the life of the loan decreases because your principal balance is reduced. However, your loan term remains the same, so while your monthly payments decrease, the interest rate and loan maturity date do not change.
Benefits of Recasting:
- Lower Monthly Payments: Reduces your required monthly payment due to a lower principal balance.
- Minimal Fees: Typically involves lower fees compared to refinancing.
- No Credit Check Needed: Since you're not changing loan terms or interest rates, lenders usually don't require a credit check or appraisal.
- Interest Savings: You pay less interest over time because the principal is reduced.
Considerations:
- Loan Term Unchanged: The length of your loan doesn't shorten; you'll still pay over the original term unless you make additional principal payments.
- Not Universally Available: Not all lenders offer recasting, and some loan types (like FHA or VA loans) may not be eligible.
- Lump-Sum Requirement: You'll need a significant amount of money to make the lump-sum payment.
2. Refinancing Your Mortgage
What Is Refinancing?
Refinancing involves replacing your existing mortgage with a new one, possibly with a lower interest rate, different loan term, or both.
Benefits of Refinancing:
- Lower Interest Rate: Can reduce your monthly payment and total interest paid if rates are lower than your current rate.
- Adjust Loan Term: You can choose a longer term to lower monthly payments or a shorter term to pay off the loan faster.
- Switch Loan Types: For example, moving from an adjustable-rate mortgage to a fixed-rate mortgage for stability.
Considerations:
- Closing Costs: Refinancing involves fees such as appraisal, origination, and closing costs.
- Credit Requirements: You'll need to qualify based on your credit score, income, and debt-to-income ratio.
- Break-Even Point: It may take time to recoup the costs of refinancing through monthly savings.
3. Making Extra Principal Payments
How Does It Work?
By paying extra toward your mortgage principal, you reduce the outstanding balance faster, which can shorten your loan term and reduce total interest paid.
Benefits:
- Shorten Loan Term: You can pay off your mortgage earlier than scheduled.
- Interest Savings: Reduces the amount of interest you pay over the life of the loan.
- Flexibility: You can make extra payments when you have additional funds without committing to higher regular payments.
Considerations:
- Monthly Payment Remains the Same: Your required monthly payment doesn't decrease unless you recast or refinance.
- No Immediate Cash Flow Benefit: Extra payments don't lower your current monthly obligation.
- Prepayment Penalties: Check if your loan has penalties for paying off the mortgage early.
4. Combining Strategies
Can You Do Multiple Things with Extra Money?
Yes, you can combine strategies to lower your monthly payments and shorten your loan term.
Options:
- Recast and Make Extra Payments: Make a lump-sum payment to lower your monthly payment through recasting and continue making extra payments to pay off the loan sooner.
- Refinance to a Shorter Term: Refinance to a loan with a shorter term and potentially a lower interest rate, which may keep payments similar but reduce the loan duration.
- Refinance After Making a Lump-Sum Payment: Pay down your principal before refinancing to secure better terms and lower payments.
Considerations:
- Evaluate Costs vs. Savings: Weigh the upfront costs of refinancing or recasting against the long-term savings.
- Financial Goals: Decide whether lowering your monthly payment or shortening your loan term is more important for your situation.
- Emergency Funds: Ensure you have sufficient savings before committing extra funds to your mortgage.
5. Other Options to Lower Monthly Payments
a. Loan Modification
- What Is It? A loan modification adjusts the terms of your existing loan, such as extending the loan term or reducing the interest rate.
- When to Consider: Typically an option if you're experiencing financial hardship.
- Impact: Can lower monthly payments but may affect your credit score.
b. Bi-Weekly Payments
- How It Works: Make half of your monthly payment every two weeks, resulting in an extra full payment each year.
- Benefits: Can reduce the loan term and total interest paid.
- Effect on Monthly Payment: Monthly obligation remains the same, but you pay more over the year.
6. Factors to Consider
a. Interest Rates
- Current Market Rates: Compare your current mortgage rate to prevailing rates to determine if refinancing makes sense.
- Rate Reduction Threshold: A common guideline is that refinancing is beneficial if you can lower your rate by at least 0.5% to 1%.
b. Loan Terms
- Remaining Loan Duration: Consider how far you are into your current mortgage term.
- Future Plans: If you plan to move soon, the costs of refinancing or recasting may not be recouped.
c. Fees and Costs
- Recasting Fees: Usually minimal, often around $250.
- Refinancing Costs: Can range from 2% to 5% of the loan amount.
d. Credit Score and Financial Health
- Credit Impact: Refinancing requires a credit check, and a higher score can secure better rates.
- Debt-to-Income Ratio: Lenders assess your ability to repay based on your income and existing debts.
7. Steps to Take
a. Contact Your Lender
- Discuss Recasting: Ask about eligibility, minimum lump-sum requirements, fees, and how it will affect your payment.
- Explore Refinancing Options: Inquire about current rates, loan terms, and closing costs.
b. Shop Around
- Compare Lenders: Different lenders may offer better rates or lower fees.
- Use Online Calculators: Estimate savings from refinancing or recasting using mortgage calculators.
c. Review Your Financial Goals
- Short-Term vs. Long-Term Savings: Decide whether immediate monthly savings or long-term interest savings are more important.
- Investment Alternatives: Consider whether investing extra funds elsewhere could yield better returns.
d. Check for Prepayment Penalties
- Loan Agreement: Review your mortgage documents to ensure there are no penalties for extra payments or early payoff.
8. Conclusion
Choosing the Best Strategy
If Lower Monthly Payments Are Priority:
- Recasting: Effective if you have a lump sum and want immediate reduction in payments without altering your loan term.
- Refinancing to a Longer Term: Can lower payments but may increase total interest paid over time.
If Reducing Loan Term Is Priority:
- Extra Principal Payments: Helps pay off the loan faster and save on interest.
- Refinancing to a Shorter Term: May increase monthly payments but reduces overall interest and loan duration.
If Both Lower Payments and Shorter Term Are Desired:
- Combination Strategy: Recast to lower payments and continue making extra principal payments to shorten the loan term.