Stepping down the ladder

We're refinancing again. Even though it's only been a year since our last refinance. Why?

Mortgage rates are down. Even more than they were last time. And that spells opportunity.

Imagine a hypothetical couple, in a situation similar to ours was, but with arbitrary numbers:

$200,000 15-year mortgage at 3.25%
Credit score: 800

According to the lovely rate quote machine at mtgprofessor.com, such a couple could sign up for a 2.625% loan with zero lenders' points and fees. Of course, for that loan, they'd have to pay out of pocket for the miscellaneous costs involved in closing the loan. Thus, a refinance decision usually involves calculating a "break-even period", like this:

The closing costs for the loan will be four thousand dollars, but we're paying two hundred dollars less in each month's payment, so after 20 months (4000/200), we'll have paid less in monthly payments than we paid to refinance. As long as we keep the loan longer than that, it will be worth it.

The decision is essentially whether you'll have the loan longer than the break-even period.

However, just like you can pay "points" for a lower rate loan, the lender will pay you "negative points" to take a higher rate loan. As of a few days ago when I checked, a 2.875% loan will include almost four thousand dollars' worth of negative points. That is enough to cover all the costs of appraisal, closing, and lenders'  fees with room to spare. Any extra funds will be applied to the couple's escrow account, to pay for property taxes and insurance. Such a loan is called a "no-cost" loan---that is, even though there may be money required at closing, all the lender's fees and third-party fees are covered.

Even though 2.875% is higher than the "going rate", it's lower than the couple's current rate. Also, since the negative points pay for the loan and more, the typical "break-even" calculation isn't even applicable: our hypothetical couple is ahead of the game right from the start! If rates drop next month, and they want to refinance again, they can do it again, and again, without losing anything except possibly some credit score points after applying for all those loans.

This technique of serial, no-cost refinancing is sometimes referred to as "stepping down the ladder", and it has the benefit that you can refinance continually as long as it's advantageous. If rates go up, though, you just stick with the last loan you took: though it's not the lowest you could have got, it's pretty close, and you don't have to keep "bottom-calling" on the way. (I would have called the bottom on mortgage rates a couple years ago, but they still keep getting cheaper!)

"Stepping down the ladder" is a viable strategy for today's market of falling mortgage rates, and anyone can do it.

Further reference:

http://thefinancebuff.com/cost-mortgage-refinance-stepping-down.html

Helpful chart at http://thefinancebuff.com/mortage-refinance-fixed-rate-or-adjustable.html