Loan Refinance Calculation Guide: How to Tell If Refinancing Is Worth It

What is Refinancing?

Refinancing a loan means taking out a new loan to pay off your existing loan and replace it with one that has more favorable terms. This is common with mortgages: you get a new mortgage to pay off your current mortgage, often with a different interest rate, loan term, or both.

People refinance for different reasons: to lower monthly payments, pay off the loan faster, or take cash out of home equity. The right choice depends on your situation and the numbers behind the new loan.

Sources: Fannie Mae, Zillow

Key Factors: Rates, Terms, Fees

Several factors determine whether refinancing makes sense. The new interest rate is a major one—a lower rate can reduce your monthly payment and total interest. The new loan term also matters: a shorter term, like 15 years versus 30, usually increases the monthly payment but saves substantial interest over the life of the loan.

Fees are another critical factor. Refinancing typically costs between 2% and 5% of the amount of the new loan. These costs include lender fees, credit report fees, appraisal fees, title search and insurance, and recording fees. For a mortgage, closing costs usually range from 1% to 2% of the loan amount.

• New interest rate and how it compares to your current rate
• New loan term (e.g., 30-year, 15-year) and how it affects monthly payments and total interest
• Total refinancing costs, including lender fees, appraisal, title, and recording fees

Sources: Fannie Mae, Zillow, Churchill Mortgage

How to Compare Your Current and New Loans

Start by gathering details about your current loan: the remaining balance, your current interest rate, and how many years are left. Then, request quotes from lenders for a new loan, including the interest rate, term, and all closing costs.

For a fair comparison, look at the monthly payment and the total interest cost over the life of each loan. You also need to know the total cost of refinancing—all the fees you'll pay to close the new loan. This allows you to calculate whether the savings from the new terms outweigh the upfront costs.

• Current loan: balance, rate, remaining term
• New loan: proposed rate, term, and total closing costs
• Compare monthly payments and total interest, then factor in the cost of refinancing

Sources: Carter Bank, Zillow, Churchill Mortgage

Calculating Monthly Payment Savings

Monthly payment savings are the difference between your current monthly payment and the new payment. To estimate the new payment, you can use a standard loan payment formula, which accounts for the loan balance, interest rate, and term.

The formula for a fixed-rate loan is: M = P [ r(1 + r)^n ] / [ (1 + r)^n – 1 ]. In this formula, M is the monthly payment, P is the loan principal (the amount borrowed), r is the monthly interest rate (annual rate divided by 12), and n is the number of monthly payments (loan term in years multiplied by 12).

Remember that a lower payment may come with a longer term or a different rate structure. Always compare the total interest you'd pay over the life of the loan, not just the monthly amount.

Sources: Fannie Mae, Churchill Mortgage

Calculating Break-Even Point

The break-even point is the number of months it takes for your monthly savings to cover the total cost of refinancing. It tells you how long you need to stay in the home (or keep the loan) before the refinance pays for itself.

To calculate it, divide the total refinancing costs by the total monthly savings. If you plan to stay longer than the break-even point, refinancing may be a good financial decision.

• Formula: Break-even point (months) = Total refinancing costs ÷ Monthly savings
• If you stay in the home longer than the break-even point, the savings outweigh the costs

Sources: Carter Bank, Zillow, Churchill Mortgage

Pros and Cons of Refinancing

Refinancing can offer benefits like a lower monthly payment, saving on total interest, or shortening the loan term. For some, it also provides cash from home equity. However, refinancing comes with costs and trade-offs. The fees can be significant, and if you don't stay in the home long enough to break even, you might lose money.

Also, refinancing to a shorter term, such as from a 30-year to a 15-year mortgage, increases the monthly payment, though it can save a substantial amount of interest over the life of the loan. Weigh these factors against your financial goals.

• Pros: Lower monthly payments, potential interest savings, faster payoff (shorter term), cash-out option
• Cons: Closing costs, longer time to break even, possible higher monthly payment with shorter term

Sources: Fannie Mae, Zillow, Churchill Mortgage

Example Scenario

If the homeowner plans to stay in the home for more than 19 months, the refinance may be financially beneficial. If they plan to move sooner, the costs may outweigh the savings.

• Break-even: ~18.6 months

Sources: Fannie Mae, Carter Bank, Zillow