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A Simple Formula to Determine When is the Best Time to Refinance

At what point do you decide to refinance a loan based on the interest rate? A question most of us have been asking, given the low-interest-rate environment we have been in for a while.

Making the right decision to refinance can save you money, but if not done at the appreciate time and for the right reason, it could end up costing you more money than you would save.

A few basic rules of thumb to follow:

  • If the difference between the interest rate you currently have and the new interest rate is less than 1%, it usually doesn’t make sense to refinance.
  • If you don’t plan on owning the real estate for at least three years, it usually doesn’t make sense to refinance.
  • The rate and terms of a loan are better for owner-occupied properties, so if there is an ability to change this status, it’s better to refinance as owner-occupied than as an investment property.

A simple approach to know when to refinance is to find the breakeven point where the costs involved meet the income benefits from the refinance.

For example, if you were refinancing a $500,000 loan and your current rate was 4%, and you had the opportunity to refinance at a rate of 3% using a 30-year amortization, then your payment would go from $2,387 per month to $2,108 per month (using 30/360 interest calculation) which would make your savings of $3,348 per year.

If the total cost to refinance was 1.50% or $7,500, the breakeven point would be calculated by  $7,500 (total costs) divided by $3,348 (yearly savings), which would equal 2.2 years. This would be the breakeven point. After 2.2 years, you start benefiting from the refinance.

Therefore, in this case, if you did not plan to own the property for another at least 2+ years, it would not make sense to refinance.

There is an excellent amortization schedule app on my website under tools that will allow you to calculate your monthly payment easily and graphically show your interest and principal paid over the term of the loan. Also, it’s easily downloadable into an excel file. Click here for the Amortization Calculator.

If you have not already refinanced a real estate loan in the last year and need assistance in finding the best financing available, please let us know. We have access to some of the best rates available in the market to help you accomplish your financial goal.


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