What's the cost of refinancing?

JUSTINE DAVIES
15 July 2014

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There are many reasons why you might want to refinance a home loan, including to pay for a renovation, to consolidate debt, to free up cashflow or simply to get a lower interest rate. So there are plenty of potential refinancing benefits – but it can also come at a large long-term cost. Why? Because even if an interest rate is lower, it can cost you more if you take longer to pay the loan off.

Let’s look at an example using the same interest rate:
A $300,000 home loan at 5.50% can potentially cost the following:

Time taken Monthly payment Total cost
20 years $2,064 $495,000
25 years $1,842 $552,000
30 years $1,703 $613,000

Total cost rounded to nearest $,000.

In other words, refinancing a 20-year home loan to 30 years, on the same interest rate, would reduce your monthly repayments by around $360 – but cost you an extra $118,000 by the time you pay it off.

So – what if the interest rate was lower?

Refinancing to a lower interest rate – and keeping the term of your loan the same – can save you a tidy sum of money. But if you also extend the term of your loan when you refinance, it could actually end up costing you more.

Using the example of a $300,000 home loan at 5.50%, over 20 years, let?s look at what size interest rate discount you?d need to justify an increase in loan term:

Loan Term (years) Interest Rate Monthly payment Total cost
20 years 5.50% $2,064 $495,000
25 years 4.40% $1,651 $495,000
30 years 3.67% $1,376 $495,000

Total cost rounded to nearest $,000.

The moral of the story? Refinancing can be a great idea if you need to access a lump sum of cash – but if you?re doing it in order to save money then make sure you do your long-term sums first.

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