Refinancing can be beneficial
Given the highly publicized info regarding “historically low” interest rates, the obvious question for many of us is “Should I refinance?”
Clearly, we are in a low interest rate environment. Before we jump into another refinance cycle, let’s look at the justification to either refi or stay the course. Much of this info is applicable to vehicles and machinery, homes or farm refinancing. There’s no one measurement or threshold to answer all questions regarding whether to refi or not. While a lower rate may look appealing, we need to account for the details surrounding this decision:
• What are the total costs involved?
• How about timing – How long is the process?
• When can I lock my new rate?
• Do I have any pre-payment penalties or costs?
• How long before I recoup my costs?
Let’s explore these in more detail. Regarding cost, most banks and lenders will have fees involved to refinance a loan. I’ve seen cases where the lender preferred to renew or re-write the loan instead of assigning a new rate. When we focus on the expense side of refinancing, we can gain a better idea of the actual benefits. Here’s one calculation to consider: Identify your annual savings (old payment minus new payment) and multiply by 12 if on a monthly schedule. Identify the cost to refinance. This can include loan fees, the need for an updated appraisal and possibly other costs to close. Divide the fees by the annual savings to identify the number of months it will take to recover your refi costs. For example: $250,000 farm real estate loan. Let’s say the rate offered is 5 percent vs. your previous rate at 6.50%. The payment difference on a 20 year loan term would result in saving ~ $2,628/year. If the cost to refinance is $3,000, the recoup time would be 1.14 years or 13.7 months.
Sample equation: (Fees at $3,000/payment difference of $2,628 equals 1.14 years)
If you plan to keep your property for an extended period, this makes sense. After 13.7 months, you’d be truly saving money. However, you may consider selling or later need to refinance your loan for other purposes. Then the decision becomes less clear. Discuss your dilemma with a trusted source to gain clarity if needed. Note, tax rules often differ depending on loan type. Check with your Accountant or CPA regarding any tax consequences and allowable deductions.
In a best-case scenario, you may have an option to change your rate at a reasonable or little cost. Ask if you can change the rate without having to renew or reset your loan. If you must renew or re-amortize your loan, you can lose the time benefit you have attained with your current loan arrangement. By re-amortizing, your payments revert to a new amortization schedule, meaning your payments are weighted to interest in the first half of the loan cycle. If you can change the rate without changing your current loan schedule, chose that option.
Some other considerations and questions when looking to refinance:
• Adjustable or fixed rate (consider locking-in a fixed rate in this environment)
• Credit scores (higher scores > 700 can help you gain a lower interest rate)
• On-Line Offerings (lower rates available – consider your banker relationship as well)
Keep in mind, if you’re in good standing with your bank or lender, they won’t want to lose your business. Before you plan your in-person, phone or virtual meeting, do a little research on available rates and refi costs to better arm yourself with solid information. Interest rates, like so many other loan variables, can often be negotiated. Leverage your good standing a history with your lender to get your best available rate.
Some websites to consider:
• Refinancing 101: Are Refinance Costs Tax Deductible? | LowerMyBills
• www.bankrate.com
• When Is the Best Time to Refinance My Home?
Be aware, Be informed and be proactive. The financial value and benefits of refinancing can be substantial – perhaps even life changing!
Ken W. Knies is an agricultural and rural consultant. He holds a bachelor’s of science and arts from the University of Arkansas and a master’s of business administration from Webster University in St. Louis, Mo. He formed Ag Strategies, LLC as a business unit focused on quality borrowers and lenders.
