Low interest rate offers for mortgage refinancing can be tempting. Whether refinancing your mortgage is actually a good idea depends on the costs of refinancing balanced against the time you plan to spend in your current home.

How to determine if refinancing makes sense

Go through these 4 steps to figure out if mortgage refinancing makes sense for you.

Determine the costs of refinancing

First determine the potential costs of refinancing: points, an application fee, an appraisal fee, legal fees, a loan origination fee, title insurance and having your credit report pulled are common costs. You can expect the cost to be 2% to 4% of the loan amount – meaning that $4,000 to $8,000 is a typical total cost in many areas of the country.

Figure out how many months or years you plan to stay in your home

This equals the number of payments you’ll make under the refinanced mortgage. For example, if you plan to be in your home for 4 years, that would equal 48 payments.

Determine how much you’ll save each month on interest

For the sake of an easy example, let’s pretend that you would save $100/month. Since you’re planning on staying in your home for 48 more months (for example), you would save $4,800 on interest over the next 4 years.

Compare your savings to the cost of refinancing

Let’s say the cost of refinancing is $4,000 – now compare this to the money you’ll save, which in this case is $4,800. That means that over the course of 4 years you would save $800, or about $17 per month. In this situation, you would weigh up whether this $800 savings is worth the time it takes to refinance your loan – maybe not.

In a different example, you plan to stay in your home for the next decade – in which case the interest savings would total $12,000. Now, compare this to the $4,000 refinance cost and you’re saving $8,000 over the period you plan to spend in your home. This would be a case when refinancing would make more sense.

Remember that $1 today is worth more than a future dollar

If your break-even point is many years away, refinancing may not be beneficial. This is because the value of a dollar today (when you are paying refinancing costs) is greater than that of a future dollar (when you are realizing the savings). Also, it may be difficult to accurately predict whether you will still be living in your home many years from now. Consequently, it is often considered ideal if you can recover your refinancing costs within a couple of years.

Source(s) consulted: Broadridge Financial Solutions.