We have been talking about historically low interest rates now for so long that homeowners and homebuyers have actually begun to take it for granted that they will remain historically low. Well, if you follow the news, you already know that the Fed will begin putting an end to that some time in June. If you have decent credit and a job, you might as well make the call to your friendly neighborhood mortgage guy and see what bounty awaits for your mindfulness. When I made that call I found that the savings over the life of my mortgage were over $50,000; thats a lot of cake no matter how you split it up, and it cost me next to nothing.
When you work in the Mad River Valley real estate industry as I do, you speak with a great many mortgage brokers. And when you listen to what the good ones have to say, you can learn some very interesting things. You might even save a few bucks in the process. Case in point.
I started receiving notices from the bank that owns my mortgage about 6 months ago. They were offering me exceptional, good-looking, super-terrific opportunities to refi my current mortgage, and lower my monthly nut by increasingly significant numbers . Of course they were. I’m one of their best clients, right? It must be because of my exceptional reputation, my obsessive compulsive tendency to pay early and often, all the referrals I give that tiny local bank in the Citi. I’m not a number, I’m a name, for heavens sake. This is clearly my reward. Needless to say, I am skeptical of any bank that comes-a-calling, so I did what most rational human beings do when something looks too good to be true – I ignored them.
But then, like Hogwarts notices through the letter-box, they started piling up in my office until I decided to actually look into them. However, instead of calling Citibank (though it’s a near certainty that someone I knew would answer the phone and personally escort me through the process) I walked down the hall to a trusted colleague in the mortgage industry and he in turn walked me through the numbers. And I was shocked to learn that given a few legitimate criteria (credit scores and employment history), I was positioned to lower my monthly mortgage payment by a significant 3-digit number. It’s found money.
So my thank-you to you for staying with me this far, is to walk you through a very real hypothetical. Given that the median home sale in the Sugarbush real estate community has hovered north and south of $290,000 for the past few years, it is reasonable to assume that there are a great number of readers who have a mortgage that is in the vicinity of $200,000. You buy a $250,000 house, you put 20 % down, boom; $200,000 mortgage. If the number is bigger, good for you. So then too will be the savings!
If you bought or owned that house prior to the collapse of the financial markets in 2008 (and along with them the real estate markets) you likely financed or refinanced that loan around 2009 for around 4.75% when rates seemed very good. That was a going “good rate” for people with good credit at the time, and we didn’t think it could get any better. But it did. If you have watched interest rates for the past several years, you remember that they dipped into the high 3’s 2 summers ago, jumped above 4 last summer and you spent a bunch of time running the numbers and realized that your closing costs would not make refi again worth your while.
But thanks to a relatively soft jobs report last week, rates for borrowers with credit scores in the 700’s dropped to 3.625, so think again about refinancing. Your $200,000 80/20, 30-year amortized loan in 2009, at 4.75 APR cost you around $1042/month in Principal and Interest (no escrowed taxes for this exercise). If you stayed on track and made no additional principal payments, today you likely have paid down that note by around $30,000. If you refinanced the remaining $170,000 into another 30-year note, it will cost you $775/month, for a monthly savings of $267; or $3204.00 per year; or $96,120.00 over the life of the loan.
Yes, I know what you are thinking, because I was thinking the same thing. If you keep extending your mortgage, you’ll never pay it off and you’ll keep wasting money on interest payments to bankers who are planning or their retirements on your willingness to keep extending. Your 30-year note was paid down to 23 years. Why not shorten it to 15 and keep you higher payments instead of lengthening your smaller payments?
The prime APR today on a $170,000 note amortized over 15 years at a fixed rate is offered to the best borrowers at 2.875% APR. That note will cost you $1163/month in Principal and Interest alone, which makes the difference between the 15-year and 30-year payments $388/month, or $4656/year. Meanwhile, if you make two extra payments per year towards principal during the course of your new 30-year loan, you will pay that 30-year mortgage in 20 years, or three years sooner than remaining 23 on the original amortization schedule (or 5 years less than the 15-year. Don’t panic, I’m getting there). Or you can make three additional payments towards principal and reduce the schedule to 15 years (see, I got there).
The 20-year plan – two additional payments per year towards principal cost you $1550 per year. Spread the $1550 over 12 months and increase your monthly payment of that 30-year note by $129/month towards principal for a monthly payment of $904/month. This pays off your new 30-year note in 20 years for $259/month less than the same loan over 15 years for a savings of $3108 annually, most of which goes towards interest payments in the first 5-7 years of the loan.
The 15-year plan – Now, pay that 30-year note off in 15 years by making three additional payments towards principal each year and see what happens. It costs you $2325 per year in additional payments towards principal, which is still a savings of $2331 per year from the total difference between your 15-year monthly payment ($1163) and the lower 30-year monthly payment ($775) which is $4656 per year. Spread the $2325 over 12 months and increase your monthly payment by $195 dollars, which converts your monthly payment $969, paying down your 30-year note in 15 years for almost $200 less per month than refinancing the original loan balance into a 15-year amortized loan. You’ve saved more than $2300 annually, paid off the loan in 15 years, paid the bank a fraction of the interest, and allowed yourself the flexibility to reduce your monthly payments if needed, in the event that some significant event down the road makes the need to tighten your belt a reality rather than an in-case-of.
No matter which scenario you investigate or choose, it shows you what a staggering amount you pay the bank in interest, especially during the initial years of the loan, be it 30, 23 or 15.
I don’t like spending money I dont need to spend. The past 7 years has made me increasingly skeptical of lenders and their obtuse motives. Call me cheap, call me frugal, even call me a skeptic. But don’t call me a fool. The savings out there are real, and they are waiting only for you to take advantage. So spend 20 minutes with the mortgage guy down the hall. Take 20 minutes to dig out your 2013 and 2014 tax returns. Call the attorney that handled your last closing and get the ball rolling, because it’s worth it. I promise. And as the real estate market heats up this summer, the party will end in a hurry. In fact, if you are reading this in July you probably already missed the boat.