Many Americans today are choosing to refinance their mortgages to take full advantage of super low interest rates. You can now get a loan for well under 4%, as of late 2016. If you paid a much higher interest rate a decade ago, you could easily save hundreds or thousands per year in interest charges. But if you are going to refinance and want to reduce your out of pocket costs, what are your options? Well, most refinances have closing costs, which total at least 3% of your loan balance, but now there are no closing cost refinance loans.
A ‘no closing cost’ refinance loan is defined as one or more of the following:
- Loan has no lender fees
- Mortgage has no closing costs at all
- Loan has no out of pocket costs
Of course, any time the lender pays anything for you, they are making up for it somewhere by charging you more. Here are some benefits and considerations of these no closing cost loans:
1. Save Up Front Costs
One of the reasons that some people do not refinance even if the current interest rate is 1% lower than what they are currently paying, is very simple: Closing a new loan costs thousands in closing costs, and not everyone can afford it. So, some homeowners end up hanging on to an old loan that is costing them thousands more in interest every year.
The obvious major benefit of a no closing cost loan is your out of pocket expenses are minimal when you refinance. When you choose this option, your closing costs are normally covered by the lender charging you a slightly higher interest rate. This means that you still pay closing costs, but you pay them over the life of the loan.
Generally, experts would advise paying your closing costs up front if you can afford it. After all, you will be paying interest for years on the closing costs that are added to your loan. However, if the extra $6000 or $10000 you have to pay up front is going to empty your reserves, you could justify using a no closing cost loan.
Also, you should consider how long you are staying in the home. If you are enjoying an interest rate that is 1 point lower than your old rate, you may be able to enjoy enough savings each month to pay for the closing costs in three or four years. If you plan to move next year, you may want to not refinance at all as you will not enjoy enough savings in that limited time to cover closing costs.
2. Renovate Your Home
If you are paying no up front closing costs, you can save yourself thousands of dollars. Sure, you are paying the closing costs over the life of the loan, but this leaves you with thousands more in your pocket up front. You could use that money for all sorts of things that can benefit you. For example, you could take that $10,000 you saved in closing costs and renovate part of your home. Ten thousand dollars would pay for new cabinets in a kitchen, or new tile and granite counter tops.
If you invest the money wisely into your house, you may be able to get most or all of that money back when you sell the home. So, by not paying closing costs, you are going to get more money back when you sell, which can be a really good investment.
3. Makes Shopping for Loans Easier
One of the variables in shopping for most home loans is that you never know on the surface level what the closing costs will be. Sure, when you get into the deal with a lender, they must provide a good faith estimate, which includes an estimate of closing costs. But you don’t get that information when you are just loan shopping. A nice thing about a no closing cost refinance is that it makes shopping for your loan easier. If the costs up front are zero and the loan product is the same, the only variable you have to worry about is your interest rate. Learn more about the fundamentals of shopping rates for a mortgage refinance online.
Another advantage of shopping no closing cost mortgages is that the lender has committed to charging you no closing costs. You know they cannot slip an extra charge in there, as they promised there are no closing costs. You will want to get in writing exactly where they are making up paying for your closing costs. You should know exactly how much higher your interest rate will be to cover those closing costs.
No closing cost refinances have many advantages, but they are not for everyone. Here are some things to think about:
- Nothing is free in life. No lender is going to pay your closing costs without making it up somewhere else, and probably with interest! You will be paying a higher interest rate, which means you are paying interest on those ‘saved’ closing costs. However, this is justifiable if you are getting a substantial savings each month in your payment. If you don’t refinance to just not pay closing costs and you are paying a much higher interest rate as a result, this doesn’t make sense either.
- Refinancing does not always make sense; if you are going to be leaving the home in the near future, it may cost you too much in closing costs to make it worth it, even if you have a ‘no closing cost’ loan. Also, if you are going to pull out cash and pay off credit cards and run them up again, you may just be enabling bad behavior.
A no closing cost loan refinance can be a very good tool for people in some situations. It is especially well suited for the borrower who lacks cash but could save substantially on their monthly payment be doing a refinance. Even if you pay a higher interest rate, you still could save thousands in interest each year.