What is refinancing and when does it make sense?

A lower interest rate or longer term may be an attraction for refinancing a mortgage, student loan or other debt. But what does refinancing a loan mean to your long-term finances?

Man and woman sitting on couch looking at tablet and discussing refinancing.

Student loans, mortgages, credit cards, vehicle loans: There are all sorts of financial products that may be useful and necessary for your daily life. However, as you balance your budget and look for ways to both save and pay off loans more quickly, you may consider refinancing.

It's important to understand refinancing and learn how it might hurt or help you financially. Reviewing the basics — the interest rate, the repayment period, whether there's a prepayment penalty and any additional fees — is a good start. For each type of loan, there are some specific refinancing questions you'll want to answer as you investigate why you should refinance or not.

Should you refinance a mortgage?

The big question on a home mortgage refinance is, "What is your break-even point?"When you refinance your mortgage, you'll have to pay closing costs that include a home appraisal, title insurance and lender fees; those may add up to thousands of dollars. If you won't save more over the life of the refinanced loan than the refinancing costs, it may not be worth it. Here's an example: Let's say the closing costs total $3,600, and refinancing will save you $100 per month. At that rate, it will take three years to break even on the refinanced mortgage. If you think there's a chance you'll move before then, refinancing may not make sense.

Should you refinance a student loan?

Some federal student loans come with benefits such as loan forgiveness for public servants, the ability to adjust payments based on your income or even the option to defer payments in certain situations. If you refinance with a private lender, you may lose these protections, and you'll need to decide for yourself whether the lower interest rate is worth it.

Should you refinance a car loan?

Refinancing into a longer loan can lower your monthly payments, but it will also mean that you're making payments for a longer period of time (and paying more in interest, unless you receive a substantially lower rate). While refinancing for a shorter term may increase your monthly payments, it will also trim the total interest that you pay and save you more.

Should you refinance credit card debt?

One common way to refinance credit card debt is through a balance transfer to a card with a lower interest rate. If you can find a card with a low transfer fee and a low introductory rate, you could save in interest and pay down the principal more quickly. But if the balance transfer fee is too high — or if you're unable to pay off your balance before the interest rate on the new card jumps or you continue to charge more purchases — you could end up with a bigger balance and a higher interest rate than on a previous card.

The information in this article was obtained from various sources not associated with State Farm® (including State Farm Mutual Automobile Insurance Company and its subsidiaries and affiliates). While we believe it to be reliable and accurate, we do not warrant the accuracy or reliability of the information. State Farm is not responsible for, and does not endorse or approve, either implicitly or explicitly, the content of any third party sites that might be hyperlinked from this page. The information is not intended to replace manuals, instructions or information provided by a manufacturer or the advice of a qualified professional, or to affect coverage under any applicable insurance policy. These suggestions are not a complete list of every loss control measure. State Farm makes no guarantees of results from use of this information.
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