Q: Our home was purchased in 1967 with a 6 percent, 25-year loan of $23,500. We now owe approximately $13,500 with nine more years to go. In 1978, we put a second trust on the property at $40,000, due in 20 years at 12 percent interest. The combined monthly payment is $744. We expect to remain in the house for a number of years. I am 50 years old and have a good job with a small firm. Would it be a good idea to refinance the home now? If so, what investment of the moneys received would you advise? Would it be reasonable to expect the monthly cost to be reduced from $744? Where is the best place to shop for a new mortgage?
A: Everyone is talking about refinancing, now that interest rates appear to be more reasonable. While my crystal ball appears to be quite cloudy, my own projection of the interest rate situation is that rates will probably be inching upward for at least the next year. If you are interested in refinancing, perhaps now is the time to "take the plunge."
People refinance their houses for a number of reasons. For those who purchased property in the last few years with interest rates of 15 percent or higher, they would be refinancing primarily to lower the monthly mortgage payments. Others refinance because they want to pull out their dead equity from their house and use that money for other investment purposes. Still others consider refinancing for tax benefits.
In your particular example, I suspect that your 6 percent loan which now has a balance of $13,500 is generating very little interest deductions. Presumably, a large portion of your monthly payment now goes to principal, rather than to a tax-deductible interest payment.
Additionally, in your particular case, since your first mortgage was for 25 years and your second mortgage was for 20 years, you are making a higher payment to principal than if you had a 30-year loan. You presently owe approximately $53,000. If you were to obtain a 30-year loan at, for example, 12 3/4 percent, your monthly payment would be $575.95. I suspect that taxes and insurance are included in your current monthly payment of $744, and thus there may be a slight saving in the monthly payment to you. However, if you were to borrow $53,000 today, you probably will have to pay a minimum of two points, which would be $1,060.
When you refinance, you have to take into consideration closing costs as well as mortgage points. In your case, the 12 3/4 percent new loan would generate considerable tax deductions for you--regardless of your tax bracket--and it makes sense to consider refinancing.
Please note that, thus far, I have suggested only the most conservative route. If you wanted to be more adventurous, you could consider pulling out some money from your property and refinancing at an amount higher than $53,000. Your income and the amount of equity in your house will determine how much more money you can borrow.
If you do borrow money, it does not make sense merely to put that in a bank where the interest rate is less than the interest rate on the amount of your loan. I would recommend that you diversify this investment, perhaps buying some conservative stocks, putting a little away for a rainy day in a high-yield certificate of deposit account, and if there is some money left over, you might want to consider purchasing another piece of property. You can purchase this property by yourself, in a shared-equity arrangement with a partner, or join a limited partnership.
If you are even more adventurous, you should consider some of the new mortgage financing that is currently available. VA and FHA rates are down to 11.5 percent. While this is an option to consider (primarily because of the assumability of those loans), you have to keep in mind that you, the refinancer, will have to pay all of the points. This may not make sense from an economic point of view.
But give some thought to some of the adjustable rate mortgages. There are programs in which you can obtain a 30-year mortgage, with a fixed monthly payment that adjusts yearly or even every five years. While I do not recommend the negative amortization firm of adjustable rate mortgage, many of the new ARMs do not have any such negative aspects.
Be careful of the negative amortization arrangement. Under this kind of program, while you may be paying a low interest rate, in fact the difference between your existing rate and the market rate is being tacked on to the principal of your loan.
We are in a brand new ball game. It makes sense to consider all of the options and discuss them with your advisers before you commit yourself to refinancing.
Benny L. Kass is a Washington attorney. Write to him in care of the real estate section, The Washington Post, 1150 15th St. NW, Washington, D.C. 20071. For a copy of the free booklet, "A Guide to Settlement on Your New Home," send a self-addressed, stamped envelope to Benny L. Kass, 1528 18th St. NW, Washington, D.C. 20036.