Little known strategy to reduce mortgage paymentsBottom Highlights, The Money Shot Thursday, March 13th, 2014
Many California homeowners financially stretch themselves to buy a home. It’s almost inevitable when even a starter home is selling for $400,000 or more. That means big monthly mortgage payments eat up a large chunk of income. It sure would be nice to lower that payment. Maybe even go out to dinner every once in a while.
Well, there is a way to do it. Lenders don’t advertise this, but they can “recast” your loan and lower the monthly payment. Here’s how it works. You make a large one-time payment on the loan balance. The lender recasts the loan by calculating the new monthly payment on the lower loan amount and the remaining loan term. The interest rate stays the same.
Typically, lenders want at least $5,000 to $10,000 toward your loan principal before they will recast a mortgage. And they are not required to do this. It’s purely optional for the lender to recast or not. If your loan has been sold, then approval will be needed from both the loan servicer and whoever owns the loan.
I like examples to explain things. Let’s do that here. We have our homeowner Diane who has $365,000 remaining on a 30-year fixed rate mortgage at 4.5 percent. She bought her home five years ago with a $400,000 loan that has monthly payments of $2,027. Diane gets a $20,000 bonus from work. She decides to use the money to pay down her mortgage.
But hold on. If she does pay down the principal, then the monthly payment stays the same. The loan will be paid off sooner than the full 30-years. However, it could still be another 20 years before that happens.
Diane decides instead to recast her existing loan. She works with her lender to take her $20,000 and recast her loan. The new mortgage payment is calculated using the remaining 25-years of the loan (remember she bought her home five years ago), the same 4.5 percent interest rate, and a loan balance of $345,000. That amount is her current loan balance minus the $20,000 payment. Her mortgage payment is now $1,918 per month instead of $2,027. That’s more than $100 per month less than what she pays now.
With interest rates on the rise, recasting can be a great strategy to hold on to that super low interest rate. Recasting is also a whole lot cheaper than refinancing. Lenders typically only charge about $150 to $250. There is no appraisal, credit check or closing costs. This is not a new loan. It makes sense a lender doesn’t repeat the underwriting process.
Before recasting your mortgage, be sure to take into account your entire financial plan. A large payment on a 4.5 percent mortgage is the same as saying you are earning a 4.5 percent return on that lump-sum of cash. A larger return might be achieved by paying off higher interest rate debt (like credit cards) or investing that money in a mix of stocks and bonds.
However, recasting your mortgage could be the right option for you if lowering your monthly payment is high on your priority list and will bring you peace of mind.
Steve Doster is a Certified Financial Planner™ professional providing commission-free financial advice for do-it-yourself investors. You can reach Steve at Doster Financial Planning by phone 619-688-1192 or email firstname.lastname@example.org. You can also follow Steve on Facebook, Linked In, Twitter, or blog to get more personal finance advice and tips.
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