In the first part of this series we took a look at some of the financial considerations of paying a prepayment penalty during a mortgage refinancing or waiting until the prepayment penalty expires before proceeding with your home mortgage refinance and of the tax write off implications of paying a prepayment penalty and refinancing before the prepayment expires.
In this article we explore more of the tolerances and "judgement call" type questions you need to consider as you decide whether or not to refinance your mortgage now and pay your prepayment penalty or wait. (Read Part 1 of this series - Refinance Mortgage or Not - Prepayment Penalty)
What Will Interest Rates Do?
These last several sections are based less on actual dollars and cents but rather on tolerance and risk. Typically you want to consider refinancing based on interest rate alone if you can get somewhere greater than a .5% reduction in your interest rate - preferably more than 1%.
It is tough to predict interest rates so if you start to consider waiting on your prepayment penalty to expire then you will be taking a chance at interest rates going higher. With rates going higher, you run the risk of not getting locked in at new lower interest rate and lower mortgage payment over the long haul. This might not be such a big loss if you don't plan on staying in your home very long, or you see yourself refinancing again in a fairly short order for some reason.
But if you plan on staying for more than 5-10 years then you'll most likely save a lot more in finance charges over the long run than you will by waiting for the pre payment penalty to expire. You do need to take a close look at your short to mid distance future to help you make this decision.
What Kind Of Mortgage Do You Have?
If interest rates go up, you may be in a tough spot if you have an adjustable rate mortgage that is due to adjust just as your pre payment penalty expires. This is co-dependent on what interest rates do. If you wait on your prepayment penalty to expire and rates go up, then you run the risk of your adjustable rate mortgage interest rate going up more than you can afford. If this happens to you then you'll need to act fast to refinance to prevent problems with your mortgage payment and your credit report.
Also, with rates going up, your window to refinance at a lower rate now when you had the chance may be gone for some years to come, which could be an irritant to you if you "why didn't I refinance" yourself to death. Again over the long haul you will be paying a great deal more in finance charges than you saved by not paying your pre payment penalty and taking the new refinance mortgage at the lower rate when you had the chance.
Economic Uncertainty Must Also Be Considered
If you have a job now, and can refinance you may consider it in the face of your pre payment penalty. You may be faced with a pay reduction, or a loss of a job in the future which would absolutely prevent you from refinancing when your prepayment penalty expires. This is not a monetary consideration like some of the other items presented, but it is worth considering - especially in today's tough and uncertain economic situation.
Property Values Going Up Or Down And Waiting To Refinance
Where do you live in the country? Do you live in a area in the country where home values are going up or are they going down. In some parts of the country like California, Florida, Nevada, Texas and Arizona property values have gone down significantly. Your window to refinance may have already closed if you have waited too long - you may be upside down on your mortgage and owe more than your home is worth.
If you are considering a mortgage refinance now, but are faced with a prepayment penalty you should do some research to find out how much property values in your neighborhood are changing (either up or down) as you consider waiting for the prepayment penalty to expire.
Ask yourself the question: is the risk worth it to me to wait to save the prepayment penalty to take the chance that I either won't be able to refinance, or a refinance in the future won't save me any money which could translate into me paying much higher finance charges in the long run or do I pay the penalty for the peace of mind of refinancing now at a lower interest rate and saving a home of money over the long run in saved finance charges?
Conclusion: Pay The Prepayment Penalty - Or Risk The Wait?
If there is no clear financial benefit to paying off a prepayment penalty before the penalty period expires then it is likely that your judgement call and your preference that will ultimately help you decide which way to go. If you can get close to breaking even on your savings and tax incentives versus the prepayment penalty then you may already have your answer. If you are not quite to the break even point, it then becomes a preference and an analysis of tthe economy, your job situation, what kind of mortgage do you have, what home values are doing in your neighborhood and do you want to play the interest rate game.
Please let us know if you have any questions about your mortgage refinancing questions. We'll do what we can to get you some answers.
Read more about when is the right time to refinance.
