We are in a rising interest rate environment and it would be wise to consider where you are in your current term and where rates may land at maturity. What are the implications of refinancing now for a better rate?
If you are 3-4 years into a 5-year mortgage term you still have 1-2 years left. If rates keep going up the way they have been you could be looking at rates at 4.5-5% when you’re up for renewal. They are currently at around 3.64% for a refinance.
Let’s look at the two methods lenders have for determining your penalty if break your mortgage. They will either charge you 3-months of interest or an Interest Rate Differential (IRD).
The first is fairly straight forward but an IRD is calculated if you pay out your mortgage and the bank has to lend that money back out at a lower rate. They will charge you the difference in interest on your remaining balance for the rest of the time remaining in your current term so they don’t lose any money.
In a declining rate environment an IRD penalty can be quite hefty. But with rates on the rise the bank can lend that money out at a higher rate and make money so they can only charge you 3-months of interest. This can make breaking your mortgage and refinancing a lot less expensive.
So, if penalty is not prohibitive then it would be prudent to consider tapping into your equity to accomplish goals such as consolidating higher-interest debt (credit cards, lines of credit, loans etc.), taking money out for investments or even home renovations.
By refinancing now and securing a new rate for another 5-years while they’re still near historical lows could keep you sitting pretty while rates go up to their highest point and you could be in another declining rate environment when you get to the end of your new term.
Definitely something to consider before that option is off the table. As always, I can do a free mortgage analysis for you to weight the costs vs. benefits. You can contact me here if you need any help.