Determining whether to refinance can be a tough decision. However, I have learned that if you do it right and make some economic sacrifices, it can be the best financial choice you ever make.
Purchasing my home
A month before turning 30, I purchased my first home back in July 2009 for $182,000 in Wilmington, Del. With a down payment of $40,000, I financed the remaining balance of $142,000 on a fixed-rate mortgage with an interest rate of 5.125 percent.
Unfortunately (or fortunately), I had the frustrating experience of having mortgage rates plummet soon after I bought my house.
My decision to refinance
Fast forward to August 2010, I looked into refinancing and learned that I could get the best available rate, but there was a catch: I would have to switch from a 30-year fixed-rate mortgage to an adjustable-rate mortgage that would be fixed for the first five years at 3.5 percent before resetting to whatever the market interest rates would be in 2015. This would subject me to a much higher rate (and monthly payment) if interest rates moved upward.
In addition, refinancing would cost me approximately $3,000 in closing costs that would get added to the principal balance. If I refinanced, my principal balance would go from its current balance of $118,000 to approximately $121,000.
My monthly payment, however, would drop from approximately $1,300 a month to a mere $704 as a result of the lower interest rate and smaller principal balance ($21,000 less than the original mortgage).
I faced the difficult question of whether it made sense to finance. However, before fretting too much, I ran the numbers with the lower monthly payment. I figured out that by refinancing and making extra payments on my mortgage ($2,000 a month), I could become mortgage-free within five years -- before the potential reset on my mortgage interest rate, saving thousands of dollars over the life of the loan.
Making some sacrifices
In order to stay on target and pay off the mortgage ahead of the reset date (August 2015), I have had to make some sacrifices. For instance, I am one of the few people I know who doesn't have cable or Internet at home. Not being connected has actually helped me become more creative; I am pursuing a master's in creativity studies from SUNY Buffalo State and working on a blog about creative leadership (I write at home and connect elsewhere to update my blog).
In addition, I cut back on eating out and I take fewer trips. I rented out one of my extra bedrooms to an old friend. I also decided that I would hold onto my old Honda Civic for a few extra years rather than buy a new car.
Because of refinancing and sticking to my financial plan, I am currently on pace to pay off the mortgage by the end of 2014, with at least eight months to spare before the mortgage rate would reset.
Looking back, I realize I took a calculated gamble in opting into a five-year adjustable-rate mortgage (and I don't recommend them for every situation). However, this has turned out to be the best financial decision I've ever made. Had I stuck to regular payments with my original mortgage, I wouldn't own my home free and clear until 2039. Thanks to refinancing, I will be mortgage-free by 2015.