When refinancing pays off
Refinancing replaces your current mortgage with a new one, usually at a lower rate. It lowers the monthly payment, but closing costs mean you need to keep the new loan long enough to recover them.
The calculation
The monthly payment of a fixed-rate loan is:
Payment = balance × i ÷ (1 − (1 + i)^−n)
where i is the monthly rate and n the number of months. The calculator compares both payments and computes:
- Monthly savings = current payment − new payment
- Break-even = closing costs ÷ monthly savings
- Total saved = remaining payments on the old loan − all payments on the new loan − closing costs
Worked example
A $300,000 balance at 7% with 27 years left, refinanced into a 30-year loan at 6% with $6,000 of closing costs:
- Current payment: $2,063.44.
- New payment: $1,798.65.
- Monthly savings: $264.79.
- Break-even: 6,000 ÷ 264.79 ≈ 23 months.
- Total saved over the life of the loans, after costs: about $15,000.
The total saving is modest because the new loan runs three years longer. Choosing a 25-year term instead would raise the payment slightly but save far more interest.
Typical closing costs
Closing costs often run 2 to 5% of the loan: appraisal, title search and insurance, origination fees, recording fees and any discount points. A no-closing-cost refinance rolls them into a higher rate or the balance; it makes sense if you may sell or refinance again within a few years.
Rules of thumb
- A rate drop of about 0.75 to 1 point is often enough on a large balance.
- Aim for a break-even of less than 2 to 3 years unless you are sure you will stay much longer.
- Avoid stretching the term without a reason; pay the old amount on the new loan if you can.
Cash-out and other options
A cash-out refinance borrows more than the balance to pay for renovations or debt consolidation, usually at a slightly higher rate. A rate-and-term refinance keeps the balance the same. Removing private mortgage insurance once you reach 20% equity is another reason to refinance, or simply to ask your lender to cancel PMI.
This calculator gives estimates for education and planning. It is not investment, tax or legal advice; for decisions about your own situation, talk to a qualified financial professional.