A question about refinancing. What's going on with this?

[truth2power]

A friend of mine has a mortgage on a modest home. He owes about $50,000 at about 7% interest. He wanted to refinance to get a 5% or so interest rate.

He called his bank and they would do that but they said he would have to borrow an extra $30,000. Now, he doesn't want an extra $30,000. He just wants to be able to pay off his house sooner. He sees no reason to encumber himself with an extra $30,000 in debt, and even if he went with that deal and tried to pay the 30,000 right back to the bank there would be all kinds of penalties etc.

What is with this? Can anyone here with some experience in finance tell me the logic behind this? Has anyone else encountered this? Thanks.

[Kittycat]

1. He needs to go to a different bank. But how is he getting 5%

We've been looking, and the best rates we found were 5.49% on a 15yr Fixed. The 5% rates were for ARMs (scary).

[truth2power]

4. Yes, it's something like 5.49%. ....

I can't remember the exact amount. I just remember he said 5 something or other.

[leftofcool]

2. BEWARE!!!!!!!!!!

Tell your friend that if he wants to pay his house off sooner, just send in an extra prinicpal payment each time

[unblock]

6. not if there's a prepayment penalty

prepayment penalties usually apply to any overpayment, not just to early payoffs.

always read the fine print before paying extra. in fact, always read the fine print before getting the mortgage in the first place!

[truth2power]

9. He already is sending extra each month, but he has it figured

that if he can get down to the 5.++% range he can pay off his home in about 15 years. I'm just interested in knowing why they want you to borrow an extra $30,000.

I'm sure it has to do with some sort of financial shell game to benefit the banks.

[Raven]

3. Yes, I have heard of this. Bad practice! By doing this, the Bank

can offer the low interest and still make more money. This is a practice that should be banned like so many others. Tell your friend to shop around...he should not borrow one cent more than he needs to.

[rucky]

5. Sounds like the bank's policy and/or the amount's too low...

to make it worth their while.

Tell your friend to shop around. But consider this: The fees involved with refinancing may not be worth it for your friend to get a lower rate. Consider how long he intends to stay in his home, and amortize both scenarios (fees included) to see how much he'd really save in that time period. A good Loan Officer will do this for you.

Shop around.

[PSPS]

7. It's a scam

Today, 7% may be a tad high but certainly reasonable. New money on a "real" mortgage costs over 6%.

I think what the bank is doing is trying to "churn" the loan just to make a commission. The giveaway is the requirement that extra funds be borrowed. In essence, this is a home equity loan. The pre-payment penalty is a big red flag.

My suggestion to your friend is, if he wants to "pay off his house sooner," he just make his monthly payments larger than they're scheduled amount. All the extra is applied to the principle, which reduces both the total interest as well as the remaining term of the loan.

[high density]

8. Run away from that bank

If they have prepayment penalties and are trying other BS like this, it's obviously not a bank you'd want to do business with.

Refinancing a mortgage usually incurs fees. Is he sure that he can get an interest rate low enough beyond 7% to offset these fees?

[unblock]

10. never accept mortgage with a prepayment penalty

mortgages live far shorter than most people realize. not only are we a more mobile society than we used to be, but refinancing has become so much easier as well. nevermind the possibility of being forced to move if times get tough. so early payoffs are quite normal and likely.

any meaningful prepayment penalty nearly always means a bad deal.

[truth2power]

11. Just to clarify, here. What I said about pre-payment penalty..

I was just ASSUMING that if you borrow money (of that amount) and then try to given it back immediately, there would be some kind of hefty penalty. I don't know that for sure.

As far as I know, my friend has NOT incurred any penalties for sending extra to his mortgage company each month.

[peace13]

12. Also read the fine print very carefully.

The new mortgage may have other constraints such as a late payment, or a late payment to another entity, triggering the note being called immediately. Be sure and read everything very carefully. Peace, Kim

[lumberjack_jeff]

13. The refinance, assuming no fees, will only save about $65/month.

It seems to me that for most people, there are better ways to pay it off sooner.

Once you add in the fees, he probably will only be saving a few bucks, if any. I would not refinance if I were him, I'd make extra principal payments if I were desirous of paying off sooner. Better yet, I'd invest as much as I could afford in a bond mutual fund such as vbiix which earns better interest than he's currently paying on his mortgage.

https://personal.vanguard.com/us/FundsSnapshot?FundId=0314&FundIntExt=INT

If his needs change, he can use the proceeds for something other than paying off his mortgage. With uncertainty on the horizon, I think that cash is king and debt may not necessarily be all bad.

[BlooInBloo]

14. Another gambler about to go down - awesome!

[truth2power]

17. I don't understand your response, Bloo...

My friend isn't a high-roller by any means. I think he's just trying to position himself so that if/when the worst happens, he'll maybe have a roof over his head and food to eat. Just like the rest of us. Scary times, indeed!

My academic background isn't in finance, although I do read and try to keep up. I was puzzled by what his bank told him, so I thought I'd put it out for discussion.

[Lex]

19. incoherent responses are

a specialty for that one, so don't be too concerned

[truth2power]

20. I thought so...

:rofl:

[Demobrat]

15. Your friend need to look at his "breakeven" -

the point at which the fees involved in the refinancing will be paid off and he'll actually start to pull ahead. On a loan that small it could be quite a long time, 8-9 years. Unless he's absolutely sure he'll be in the house longer than that it might not be worth it to refinance. Better to put the fees against the principal. There are lots of online calculators with which to do this.

As for the bank wanting him to borrow another $30,000, lots of banks wont deal with refinances under $50,000. Not enough in it for them.

[Agony]

16. Next time use a credit union. The logic here is based on greed.

That way you own the place you are borrowing money from. Bank are just money changers that perform NO real productive enterprise that moves anybody or anything, especially this country forward. There may have been a time in our history when this was different, but greed has killed anything positive about corporate banking. Same goes for wall street.

My credit union will refinance at the drop of a hat if interest rates change, all ya gotta do is ask. If you keep your mortgage/loan for at least three years you do not have to pay any points or fees or even for a real estate appraisal...Nothing. They have clearly built the payment for services and loan origination costs into the first three years of a loan...seem reasonable to you? Of course being a non-profit organization this all works. Credit union people make a decent living as they are WAY happier than any bank employees I have interacted with. So what is wrong with this scenario? Oh yeah right the banking lobby has made it practically impossible for you to join a credit union... boy does repuglicanism suck.

I hope your friend can work this out. Forced as he is to work with people who don't really GIVE A Fuck about him or his family.

[truth2power]

18. Thanks, all for the feedback. I've sent the link to my friend. n/t