June 8, 2020

Edited 12/30/20

Refinancing Vs. Downsizing: Saving Money on Monthly Payments

Decide which option is best for you and your future retirement goals.

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With the recent cuts in interest rates — coupled with concerns about having enough money saved up for retirement — many Americans are thinking about refinancing their homes. 

The idea of paying lower fixed monthly payments and freeing up more cash for daily expenditures seems like a no brainer — and an easy way to save on housing expenses. 

According to an analysis of data from the  Federal Reserve Bank of New York, the total debt by Americans over age 70 rose 543 percent from 1999 through 2019, to $1.1 trillion. Also, according to the report, mortgages account for the greatest share of debt for those in their 60s, followed by auto loans, credit cards, home equity lines of credit and student loans. 

But while refinancing may seem like an easy solution for some, it’s not necessarily the best move for everyone nearing retirement — nor is it the only option for making expenses more manageable.

Downsizing, or moving into a smaller home, can also save hundreds of dollars a month. It may be a better way to save money on mortgage payments, utilities and cost of living — especially for empty nesters who may not need as much space as they once utilized.

So how does an individual or family know the best way to lower fixed expenses, when it comes to their home? 

The answer, according to experts, depends on a number of factors.

When Refinancing Makes the Most Sense

If you need a good reason (besides historically low-interest rates) to refinance, you’ll find plenty. 

“While rates are typically the driver when deciding to refinance for most people —- and sometimes a rate change as little as half of a percent can mean significant changes to payments or shave years off the term of a mortgage — goals can change as well,” explains Mychal Campos, investment professional. “It may be that you’re looking to a new mortgage to reduce monthly payments to meet a new fixed income during their retirement years or perhaps you’d like to have your mortgage paid for by the time they retire as part of their retirement plan.”

Either way, you’ll want to act quickly. 

“Typically anytime we see a rate drop we see an increase in those applying to refinance,” Campos continues. “The process is not necessarily competitive but we do see lenders increase their closing time and so rate locks become important.” 

If you’re pretty sure you want to at least explore refinancing, it’s important to get your documents in order, as lenders prefer to work with well-qualified, organized applicants.

“Rates are not only tied to 10-year treasury rates but are also somewhat tied to demand,” says Campos. “Demand can keep rates artificially high as there is no incentive for lenders to lower rates when they have plenty of business. Once applications begin to slow or there is a slow down in the purchase of new homes, you will likely see rates fall more in line with the 10-year Treasury benchmark.” 

This means, at a minimum, you will need:

  • a couple of months worth of pay stubs; 
  • your last two years of tax returns; 
  • two months of bank statements; 
  • up-to-date information on your current mortgage as well as your property insurance documents.

This is also a good time to check on your credit score, and limit other new applications for credit during the time period before and after you close, Campos adds.

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When You Should Consider Downsizing

It’s possible that while you’re considering refinancing, it’ll occur to you that downsizing your dwellings — selling your home for a smaller and/or less expensive home — may be the ideal way to free up more discretionary income for your retirement years. If, say, you’re an empty nester with two grown kids, you may no longer need a four-bedroom home with 2,400 square feet of space. 

There are multiple advantages to downsizing your home, from lower mortgage payments to reduced utility, maintenance and insurance costs. These could add up to several hundred, or several thousand, dollars per month. There are non-monetary benefits, too: With less space and fewer rooms, you’ll spend less time and/or money cleaning or maintaining your downsized home.

“It also may be possible that there is enough equity in your current property to make a large down payment on a new home or even purchase a home using existing home equity and have no mortgage and simply need to pay for taxes, insurance, and maintenance,” says Campos.

“For many retirees, the decision to downsize can be an emotional one as well as financial,” says Campos. For this reason, 

One should consider the following: 

  1. Are you no longer able to comfortably make your payments for your mortgage, taxes, insurance, and maintenance of your current home?
  2. Are you geographically far from family or friends that you may rely on for care or assistance later in life?
  3. Do you have more space then you are utilizing?

“If the answer is yes to any of these then you may consider downsizing. If you are considering downsizing then DO NOT refinance your mortgage. While refinancing can lower your monthly payment, the upfront fees associated with mortgage financing typically only make sense if you plan to stay in your house for the medium-term,” says Campos.

And with anything, timing is a key factor: Downsizing in a home seller’s market means you’ll probably end up with more cash than during a buyer’s market. Also, consider the overall economy: Will you be able to sell your existing home for what it’s worth, in a suitable time frame? Has the value appreciated significantly since you purchased it?

“If you plan on staying in your home, then look at refinancing,” says Campos. “ If you think you might downsize then look to that and do not refinance.” 

One final thing to consider is that downsizing your home is a maneuver that’s hard to reverse. If you decide to downsize now, and your college-age children go on to have their own children, it’s possible you may regret swapping a larger home for a much smaller dwelling. 

To explore more ways to reduce fixed costs, or make a big financial decision, there are many resources available for you to calculate your costs. You should also discuss the options with your family and/or your partner. By knowing which option to take, you can start to assess your income, lifestyle preferences and other factors and know how the best moves.