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Is a refinance the right decision?

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Posted: Tuesday, January 28, 2014 4:00 pm | Updated: 1:32 am, Wed Feb 5, 2014.

(BPT) - Once at rock bottom, interest rates have ticked up slightly in recent months. Still, the prospect of refinancing a mortgage remains attractive. Interest rates are projected to rise to 5 percent or above by August 2014, according to an August 2013, Freddie Mac study.

“The window hasn't closed, but homeowners should analyze their mortgage situation to see if a refinance can improve their overall financial picture,” says John Young, director of real estate product management at USAA.

Mike Fratantoni, vice president of research and economics at the Mortgage Bankers Association, agrees. “When market rates were at 3.5 percent, 90 to 95 percent of outstanding loans would have benefited from a refi,” he says. Now, with mortgage rates at about 4.4 percent, just 25 to 30 percent of homeowners with outstanding loans would come out ahead.

Here are some reasons why you should refinance.

* Pay off your mortgage early. Moving from a 30-year term to a 15-year term without a big jump in monthly payments could save you thousands in interest and build equity in your home faster.

* Create more cash flow. Lower interest rates can create lower monthly mortgage payments, freeing up money to pay down debt or just to provide more wiggle room in the budget for other things.

* Access home equity. On a cash-out refinance, you borrow more money than you owe on your current loan, and use the funds for purposes such as reducing other debt, remodeling your home or just recovering from a financial setback. “As home values start to rise, there is some pent-up demand for a cash-out refinance to access the equity in the home for other purposes,” says Diane Brooks, real estate product management director at USAA.

Would refinancing benefit you?

Fratantoni puts today's mortgage holders into three categories:

Already refinanced: Those with strong credit, job security and plenty of home equity. These homeowners refinanced in the past few years and secured a rate in the low- to mid-3 percent range.

Already refinanced through federal programs: Those people with good credit and employment who lack enough equity to qualify for traditional refinancing. These borrowers only qualify to refinance through federal programs such as the Home Affordable Refinance Program, known as HARP, or the Federal Housing Administration's streamline refinance – both advantageous to a homeowner who owes more on his mortgage than his home is worth. Fratantoni notes that many homeowners who qualify for those programs have refinanced.

Current candidates for traditional refinancing: Those who regained their financial footing after a job loss or credit trouble, or who are no longer underwater as home values rise.

Do your financial homework, Brooks says. “It's not just about payment savings. That's not the whole story.” How quickly will you recoup closing costs - typically between 2 and 5 percent of your loan? How long do you plan to stay in the home? How long are you extending the term?

Doing the numbers may not reflect how badly you want more cash flow in your budget or how passionate you are about that kitchen remodel. So even if the numbers aren't optimal, there could be enough of a financial and emotional boost to justify a mortgage refinance. Just remember, you’re leveraging your home.

And a 30-year loan, while having a higher interest rate, can provide a lower monthly payment that's more manageable in lean financial times.

“On a 30-year loan, you can make a larger monthly payment to pay the loan off in 15 years,” Young says. “If you run into cash flow problems, you can always make the minimum payment. Refinancing for a 15-year loan, while getting you a better interest rate, will also get you a higher minimum payment that must be paid on time."

Before you refinance, ask yourself these questions:

* How's my credit score? A stellar credit score can help you get a good interest rate.

* How will I pay my closing costs? Many people roll them into the refinanced loan amount. But saving enough to pay for the closing in cash can make the refinance an even better deal.

* Where does my mortgage fit into my family's financial picture? Consider your overall budget, investments, college savings plan and other financial goals.

* If your refinance lowers your monthly payment, what will you do with the extra cash? Many people don't have a good strategy for this additional monthly savings. Ideally, the payment savings should be applied to other debt or to boost your savings account.

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