How are these advantages possible AFTER a mortgage has been signed? Help needed as I’m trying to wrap my head around financial mechanisms – why is this a thing and under what circumstances/ conditions does a refinancing make the most sense to use?
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> How are these advantages possible AFTER a mortgage has been signed?
Generally, you can’t change the terms of a mortgage after you’ve signed it.
A refinance is taking out a new loan with different terms. Then use that new loan to pay the mortgage.
Your new loan could have a lower interest rate, if overall interest rates have gone down, or if you have a better credit rating.
Your new loan will also “reset the clock” so you can have lower payments over a longer time frame. For example, if you bought a house in 2013 for a $120k 30-year loan, and you’ve paid off $40k by 2023, your existing payments will be sized so that you’ll repay the remaining $80k by 2043 [1], since you’re 10 years into a 30-year loan.
If you refinance, you’re essentially taking out a new $80k loan in 2023 to repay the old mortgage immediately. As a 30-year loan, that new loan won’t be due until 2053, so your new payments will be lower. You were 10 years into the old 30-year loan (that started in 2013), but you’re now 0 years into the new 30-year loan (that starts in 2023). In other words, the $80k is re-stretched from being due in 2043 (20 years from now) to being due in 2053 (30 years from now). You get the benefit of a lower monthly payment, but at a cost of having to wait 10 more years until the monthly payments to stop, and you own your home free and clear.
[1] These are simplified numbers that aren’t quite accurate. Numbers for a real, actual mortgage will be a little bit off, because the split between interest and principal changes over the life of the loan. So unless you’ve been making more than minimum payments, generally you won’t have quite paid off 1/3 of the loan in the first 10 years. It all balances out so the minimum payments will make the loan finish exactly at the 30-year mark, because the interest goes down as you repay. So your minimum payment in the first 10 years will pay off less than 1/3 of the loan, but it’s balanced because your minimum payment in the last 10 years will pay off more than 1/3 of the loan. The payments are generally all the same amount of dollars, but because the remaining loan is shrinking, less of the later payments goes to interest, so more goes to principal.
> How are these advantages possible AFTER a mortgage has been signed?
Generally, you can’t change the terms of a mortgage after you’ve signed it.
A refinance is taking out a new loan with different terms. Then use that new loan to pay the mortgage.
Your new loan could have a lower interest rate, if overall interest rates have gone down, or if you have a better credit rating.
Your new loan will also “reset the clock” so you can have lower payments over a longer time frame. For example, if you bought a house in 2013 for a $120k 30-year loan, and you’ve paid off $40k by 2023, your existing payments will be sized so that you’ll repay the remaining $80k by 2043 [1], since you’re 10 years into a 30-year loan.
If you refinance, you’re essentially taking out a new $80k loan in 2023 to repay the old mortgage immediately. As a 30-year loan, that new loan won’t be due until 2053, so your new payments will be lower. You were 10 years into the old 30-year loan (that started in 2013), but you’re now 0 years into the new 30-year loan (that starts in 2023). In other words, the $80k is re-stretched from being due in 2043 (20 years from now) to being due in 2053 (30 years from now). You get the benefit of a lower monthly payment, but at a cost of having to wait 10 more years until the monthly payments to stop, and you own your home free and clear.
[1] These are simplified numbers that aren’t quite accurate. Numbers for a real, actual mortgage will be a little bit off, because the split between interest and principal changes over the life of the loan. So unless you’ve been making more than minimum payments, generally you won’t have quite paid off 1/3 of the loan in the first 10 years. It all balances out so the minimum payments will make the loan finish exactly at the 30-year mark, because the interest goes down as you repay. So your minimum payment in the first 10 years will pay off less than 1/3 of the loan, but it’s balanced because your minimum payment in the last 10 years will pay off more than 1/3 of the loan. The payments are generally all the same amount of dollars, but because the remaining loan is shrinking, less of the later payments goes to interest, so more goes to principal.
> How are these advantages possible AFTER a mortgage has been signed?
Generally, you can’t change the terms of a mortgage after you’ve signed it.
A refinance is taking out a new loan with different terms. Then use that new loan to pay the mortgage.
Your new loan could have a lower interest rate, if overall interest rates have gone down, or if you have a better credit rating.
Your new loan will also “reset the clock” so you can have lower payments over a longer time frame. For example, if you bought a house in 2013 for a $120k 30-year loan, and you’ve paid off $40k by 2023, your existing payments will be sized so that you’ll repay the remaining $80k by 2043 [1], since you’re 10 years into a 30-year loan.
If you refinance, you’re essentially taking out a new $80k loan in 2023 to repay the old mortgage immediately. As a 30-year loan, that new loan won’t be due until 2053, so your new payments will be lower. You were 10 years into the old 30-year loan (that started in 2013), but you’re now 0 years into the new 30-year loan (that starts in 2023). In other words, the $80k is re-stretched from being due in 2043 (20 years from now) to being due in 2053 (30 years from now). You get the benefit of a lower monthly payment, but at a cost of having to wait 10 more years until the monthly payments to stop, and you own your home free and clear.
[1] These are simplified numbers that aren’t quite accurate. Numbers for a real, actual mortgage will be a little bit off, because the split between interest and principal changes over the life of the loan. So unless you’ve been making more than minimum payments, generally you won’t have quite paid off 1/3 of the loan in the first 10 years. It all balances out so the minimum payments will make the loan finish exactly at the 30-year mark, because the interest goes down as you repay. So your minimum payment in the first 10 years will pay off less than 1/3 of the loan, but it’s balanced because your minimum payment in the last 10 years will pay off more than 1/3 of the loan. The payments are generally all the same amount of dollars, but because the remaining loan is shrinking, less of the later payments goes to interest, so more goes to principal.
I find this might be easier to understand with numbers. Let’s say you buy a beautiful new home for $500,000 and you get a 6% interest rate. You live there for a few years paying off this mortgage and eventually your %owned vs %financed changes to the point where instead of owning maybe 5% of the house when you start, you later own 40% and your loan is now only for 60%.
You can talk to your bank or another bank and say I have 200k in equity( 40% portion you own) but I want to buy another property that’s $100,000. The bank says thats great we can offer you a new $400,000 loan at 4%. So your original loan is only $300,000 at this point with a higher interest rate. The new loan pays that loan off and you have the cash to spare and a lower rate.
You can also do this with a home owners line of credit which is basically the same principle but instead of changing loan terms your just borrowing against the equity on your part of the house.
I find this might be easier to understand with numbers. Let’s say you buy a beautiful new home for $500,000 and you get a 6% interest rate. You live there for a few years paying off this mortgage and eventually your %owned vs %financed changes to the point where instead of owning maybe 5% of the house when you start, you later own 40% and your loan is now only for 60%.
You can talk to your bank or another bank and say I have 200k in equity( 40% portion you own) but I want to buy another property that’s $100,000. The bank says thats great we can offer you a new $400,000 loan at 4%. So your original loan is only $300,000 at this point with a higher interest rate. The new loan pays that loan off and you have the cash to spare and a lower rate.
You can also do this with a home owners line of credit which is basically the same principle but instead of changing loan terms your just borrowing against the equity on your part of the house.
I find this might be easier to understand with numbers. Let’s say you buy a beautiful new home for $500,000 and you get a 6% interest rate. You live there for a few years paying off this mortgage and eventually your %owned vs %financed changes to the point where instead of owning maybe 5% of the house when you start, you later own 40% and your loan is now only for 60%.
You can talk to your bank or another bank and say I have 200k in equity( 40% portion you own) but I want to buy another property that’s $100,000. The bank says thats great we can offer you a new $400,000 loan at 4%. So your original loan is only $300,000 at this point with a higher interest rate. The new loan pays that loan off and you have the cash to spare and a lower rate.
You can also do this with a home owners line of credit which is basically the same principle but instead of changing loan terms your just borrowing against the equity on your part of the house.
Because you can get a lower rate and save many thousands over the term. Obviously this only works if the new rates are much lower or you want to go to a shorter loan perhaps. In addition to the great answers here, I also want to mention that when you refi, you end up resetting the loan term (schedule) if you don’t go for a shorter loan. That’s a reason why banks are always promoting refinancing, especially to older loans at a higher rate. Interest on loans is front-loaded so the bank makes a lot of money in the first several years. I have many friends who “lowered the monthly payment by hundreds!” not realizing a big part of that is also the fact their 30 year loan they were 5 years into was just reset again to 30. When I refinanced, I kept paying my old payment amount for additional principal. When I did the math for mine, I’d be paying the loan off about 2.5 years faster than my original 30 yr loan (from 25 years remaining to 22.5).
Because you can get a lower rate and save many thousands over the term. Obviously this only works if the new rates are much lower or you want to go to a shorter loan perhaps. In addition to the great answers here, I also want to mention that when you refi, you end up resetting the loan term (schedule) if you don’t go for a shorter loan. That’s a reason why banks are always promoting refinancing, especially to older loans at a higher rate. Interest on loans is front-loaded so the bank makes a lot of money in the first several years. I have many friends who “lowered the monthly payment by hundreds!” not realizing a big part of that is also the fact their 30 year loan they were 5 years into was just reset again to 30. When I refinanced, I kept paying my old payment amount for additional principal. When I did the math for mine, I’d be paying the loan off about 2.5 years faster than my original 30 yr loan (from 25 years remaining to 22.5).
Because you can get a lower rate and save many thousands over the term. Obviously this only works if the new rates are much lower or you want to go to a shorter loan perhaps. In addition to the great answers here, I also want to mention that when you refi, you end up resetting the loan term (schedule) if you don’t go for a shorter loan. That’s a reason why banks are always promoting refinancing, especially to older loans at a higher rate. Interest on loans is front-loaded so the bank makes a lot of money in the first several years. I have many friends who “lowered the monthly payment by hundreds!” not realizing a big part of that is also the fact their 30 year loan they were 5 years into was just reset again to 30. When I refinanced, I kept paying my old payment amount for additional principal. When I did the math for mine, I’d be paying the loan off about 2.5 years faster than my original 30 yr loan (from 25 years remaining to 22.5).
Important to note that when you refi you get a new interest rate. If your first mortgage had a good interest rate, you probably don’t want to refi now, when interest rates are high.
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