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In recent times, interest rates are at their lowest level in history. This results from the low benchmark interest rate the Bank of Canada is maintaining to fuel economic recovery. Accordingly, many people see this low-rate environment as an opportunity to refinance their mortgages.
So, you may wonder why Canadians refinance their mortgages. With this in mind, this post explains why you might consider refinancing your mortgage.
Refinancing a mortgage means replacing your existing home loan with a new one. The new mortgage loan will have different terms from your current mortgage loan. One of the main reasons for a mortgage refinance is to get a lower mortgage rate. This low mortgage rate helps reduce your monthly mortgage payments and saves you money on interest.
Mortgage refinancing allows you to end your current mortgage and begin a new one. There are many ways of refinancing a mortgage. These include:
In this case, you cancel the existing mortgage and sign a new mortgage with a new lender. You may incur prepayment charges for breaking your mortgage.
HELOC allows you to access the equity in your home without necessarily replacing your entire mortgage loan. This route might be better if your prepayment penalty charge is too high. HELOC works like a credit card or standard personal line credit account.
More so, the interest on a HELOC is generally lower than those on a similar personal line of credit or credit card because it is a secured loan.
Still, you can use the Blend and Extend option to access the equity in your house without incurring the high prepayment charges for breaking your existing mortgage before the end of the term. With a Blend and Extend mortgage, your final mortgage rate combines your initial and current market rates.
Lenders are more willing to consider this option when the marketing rate is trending down.
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Canadians refinance their mortgages for various reasons. The primary purposes for refinancing a mortgage are:
Refinancing allows you to apply for a brand-new mortgage rate which invariably reduces your mortgage payments. Refinancing is a good move if the current market rates are considerably lower than your mortgage rate. However, a prepayment charge goes with breaking your mortgage midterm. Still, you might consider refinancing if you expect interest rates to increase at the end of your term.
You can borrow the equity on your home when you refinance your mortgage. After deducting outstanding debts, you can access 80% of your house’s appraised value. Home equity is the difference between the value of your home and your mortgage debt. To cash out the equity on your home requires you to increase your loan amount above the current balance.
In recent times, more and more Canadians are beginning to refinance their mortgages and use the extra funds as a down payment or deposit for a new house, invest in rental properties, and invest in other asset classes to diversify their investments.
The cash can be used for other significant expenses like the ones listed below:
An important reason to refinance your mortgage might be to have a single mortgage payment monthly rather than multiple payments for various loans. Also, mortgage refinance will allow you to consolidate your high-interest unsecured debts into your low-interest mortgage loan, thus, saving you interest expenses. Examples of debts of debts you might consider consolidating into your mortgage are;
In some cases, a reason for refinancing might be to have funds to renovate your house or expand it. This is a good idea because renovation increases the value of the property. You may consider renting out any subsidiary housing units you build. This may be an excellent way to earn passive income as a homeowner.
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There are no right or wrong reasons for cashing out your money. However, from a financial standpoint, the cost implications of refinancing are too far-reaching not to have long-term benefits. Some not-so-good reasons for refinancing are highlighted below.
Generally, what is regarded as a luxury expense is a matter of opinion. Still, it is financially risky to cash out refinance for wardrobe make-over or go on expensive vacations when you cannot afford to pay essential bills or without a financial goal.
To be safe, Cash Out refinancing should bring a tangible benefit to the owner.
Refinancing for a more extended period at an interest rate close to or lower than the interest rate you are currently paying will reduce your monthly payment. In the long run, closing costs and additional interest may make you regret your decision after a few years.
Getting a short-term loan such as a personal loan is advisable to offset the short-term cash flow crisis. Though the interest rate will be higher, the cost will be lower.
It is not recommended that you refinance your mortgage simply because it seems everyone else is doing it. Even when mortgage rates are much lower, refinancing might be costlier in the long run. Remember, you will have to pay closing costs when refinancing your mortgage, just like your first mortgage.
As a general rule, you should only refinance if your new interest rate is at least 1% lower than what you currently pay. Another way to look at it is that you can break even in two and a half years. You break even when your savings exceed the closing cost of refinancing your mortgage.
If your only reason for refinancing is to pay off your loan faster, you may be depriving other financial goals. Tying up a substantial part of your money on your house might prevent you from contributing towards your retirement, making investments with higher returns, etc.
In the final analysis, the key to finding the best mortgage rate is shopping around. Mortgage rates vary from one lender to another. So do your research and get quotes from different lenders to get the best deal.
To really understand whether refinancing your mortgage is a good idea, you should consult a certified Canadian mortgage broker. They will be able to evaluate your personal situation for free and help you understand your options. Then you can have a purpose for the refinance