Refinancing a mortgage can be attractive for a number of reasons. Homeowners often save money by refinancing when interest rates are lower than they are now paying. Cash refinancing can allow them to tap into their home equity to pay for home repairs or consolidate debt. Or they might want to switch from a variable rate mortgage to a more predictable fixed rate mortgage. Whatever the motivation, it’s important to consider closing costs, especially if refinancing without closing costs might be the right choice.
Key points to remember
- Refinancing a mortgage can mean lower monthly payments, but borrowers still have to pay closing costs as they would with any other mortgage.
- Refinancing without closing costs allows homeowners to factor closing costs into their new mortgage, rather than paying them out of pocket.
- When considering refinancing with no closing costs, it’s important to know how it will affect your monthly payments and the total cost of the loan.
What is a refinance with no closing costs?
Mortgage refinancing is not that different from getting a mortgage in the first place. For example, the borrower can expect to pay the loan closing costs. These can include things like:
- Government registration fees
- Assessment fees
- Credit file fees
- Original fees
- Survey fees
- Tax service charge
- Lawyer fees
- Subscription fees
According to Freddie Mac, refinancing typically involves closing costs of around $ 5,000. As with other home loans, these closing costs would normally be due when you sign the documents to finalize the new loan.
Refinancing without closing costs does not require you to pay these costs out of pocket. But that doesn’t mean there aren’t any closing costs at all. Rather than having you pay them when the loan closes, lenders can collect these costs in one of two ways:
- Charge a higher interest rate on the new loan
- Incorporation of closing costs into the principal of the new loan
Either option will affect the total cost you pay for the new mortgage.
How a No-Closing Cost Refinance Works
If your lender offers refinancing with no closing costs, you may have the option of paying a higher interest rate or having the closing costs incorporated into the new loan. Here’s how each one works and how they’ll affect your costs.
Option 1: Pay a higher interest rate
Choosing a loan with no closing costs with a higher interest rate will result in a larger monthly payment and will affect the total amount you will pay over the life of the loan.
For example, suppose you have 25 years left on a 30-year 4.2% mortgage and you currently owe $ 250,000. Because you want to reduce your monthly payments, you decide to refinance yourself into a new 30-year loan at 3.2%. The closing costs are estimated at $ 5,000 and you decide to pay them out of pocket. The new loan will reduce your current monthly payment by $ 141, from $ 1,222 to $ 1,081.
Now, let’s say you can’t or don’t want to pay the closing costs out of pocket, but instead agree to an interest rate of 3.7%. In this case, your payments would only be $ 49 less per month than your old mortgage.
Option 2: Include closing costs in the loan
Incorporating closing costs into the new loan means adding them to the principal of the loan. While the lender may offer you the same interest rate as if you paid the closing costs out of pocket, this option will still increase your monthly payments and reduce your total savings.
Using the same $ 250,000 mortgage scenario as above, assume that you transfer the $ 5,000 closing costs into the new 3.2% mortgage. (Now you are borrowing $ 255,000 instead of $ 250,000.) By choosing this option, you will reduce your monthly payments by $ 120 compared to your old mortgage. That’s $ 21 less per month than if you paid the closing costs out of pocket.
While all of these scenarios show that you can save money on your monthly payment by paying the closing costs out of pocket, you may not have that much money on hand, or you may have others. in mind uses for this. Another way to look at it is how long it will take for the money you save each month to add to the amount you spent on closing costs. For example, if you reduce your monthly payment by $ 141, as in the example above, it will take a little over 35 months, or about three years, before your savings reach $ 5,000.
Advantages and disadvantages of refinancing without closing costs
Refinancing without closing costs can have both advantages and disadvantages for most homeowners. Here are a few that you will want to consider.
Refinance a home loan without paying high closing costs out of pocket.
Cash in on home equity to use for repairs, renovations, or debt consolidation.
Lower interest rates could still save homeowners money.
You don’t completely avoid closing costs.
Monthly payments may increase if you accept a higher interest rate or build in closing costs into the new loan.
It may take longer to break even with a refinance with no closing costs.
- Refinance without paying closing costs out of pocket. Refinancing with no closing costs allows you to conserve your cash for other purposes.
- Cash in on the equity in the home. You can use a no-closing cost refinance to take equity out of your home that you can then use for repairs or other expenses. While you can do this with any type of cash refinance, a loan with no closing costs means you’ll have more cash on hand.
- Lower interest rates can still save you money. Even if you pay a slightly higher rate for a refinance with no closing costs than if you paid those costs up front, you could still save money over the life of the loan based on the difference between your old and your old one. new loan rate. .
- You don’t avoid closing costs. A refinance loan with no closing costs does not mean that those costs disappear entirely; you don’t pay them up front.
- Monthly payments could be higher. Depending on the new loan term you choose and the interest rate you qualify for, your monthly payments could be higher with a refinance loan with no closing costs than with your current loan.
- May take longer to break even. The breakeven point represents the point at which all the money you paid for closing costs, directly or indirectly, is clawed back as interest savings on the loan.
The bottom line
Refinancing without closing costs can be of interest to homeowners who want to refinance their mortgage without spending a lot of money out of pocket. The suitability of a no-closing cost refinance for you may depend on a number of factors, including:
- How much money you hope to save on interest
- Interest rates you may be entitled to, based on your credit and income
- How long do you plan to stay at home
- Whether you choose to pay a higher interest rate or build the closing costs into the loan
If you are considering no-cost refinance or regular mortgage refinancing, take the time to shop around and compare the best mortgage rates. This can help you find the best loan terms for refinancing your home.