Refinancing Your Way Out of Debt?
Guest Post from Fired Up Millennial: Save Money through Refinancing
This is a special guest post from Tom over at firedupmillennial.com
Tom is a millennial blogger who runs a personal finance site centered around achieving FIRE (financial independence – retire early). You can find him on Twitter @FIREdUpMillenn to follow his journey and stay updated on his newest posts.
Tom has some great ideas regarding saving money on debt while you’re paying it off.
Take it away, Tom!!
How You Can Save Money on Every Kind of Debt by Refinancing
Most people have some form of debt. Whether it be a mortgage, auto loan, student loans, or credit cards, almost everyone is making monthly payments to a creditor—and that means they’re also paying interest, fees, and more.
Borrowing money, regardless of how or why, involves paying interest. If you take out a loan for $1,000, for instance, the bank may charge you an interest rate of 10%. That means if you pay the loan back in a year, you’ll end up paying $1,100, and the bank just made an easy $100.
While that might not sound like a bad deal, consider that many credit cards might charge up to 25% interest or more, and the average credit card holder has a total of over $15,000 in debt. Suddenly that $100 of interest turns into thousands of dollars a year—and that’s not even counting the cost of whatever was purchased with the card; that’s just the cost of using credit.
The same principle applies with any loan as well. A $20,000 car can end up costing $25,000 with taxes, fees and interest; you might even end up paying $400,000 for your $300,000 home by the time it’s all paid off. It can seem like a fairly bleak picture. Is there any way to keep from paying so much?
What is Refinancing?
After you’ve financed something, like a car, home, education or even purchases on a credit card, a refinance is just that—a re-financing of that debt into a new loan or credit card account.
There are several reasons to do this. Interest rates, which fluctuate based on the market, might be lower now than when you took out your loan. You might need a lower monthly payment due to changing financial circumstances or want to consolidate several loans into one.
Whatever your reasoning, refinancing your debt can save you a lot of money over the long term. It can also, however, cost you money, so before jumping into a refinance, let’s take a look at how it works, as well as how to do it in a way that saves you money.
What Can Be Refinanced?
Many different types of debt can be refinanced, and in some cases, you can even refinance one debt to pay off another debt. Your student loans, car loans, home mortgage, credit card debt, and even personal loans can be refinanced, and in some cases, they can be consolidated as well. That means being able to pay them off faster—which means more money in your pocket.
If you have educational debt, then you already know what a financial weight it can be. Whether you have federal or private loans, however, refinancing that debt could help you save money.
Several lenders offer programs specifically to help college graduates refinance their student loans. Since most students have more than one loan, refinancing also means consolidating those loans into a lower interest rate. That can mean a lower monthly payment while still paying off the loans in a faster way.
Credit cards aren’t like typical loans; you don’t get all the proceeds up front. Instead, you take out enough credit for each purchase and agree to pay back that amount plus interest. Credit cards, however, are well known for exorbitant interest—sometimes up to 25%.
Since credit cards aren’t the same as loans, you can’t refinance them in the same way. You can, however, transfer your balance to another credit card with a lower interest rate, which has the same effect as a refinance. Many cards offer an introductory rate of 0% APR for 12 or even 18 months, which gives you the opportunity to pay down the balance without more interest accruing on it per day.
When you first took out the loan on your car, you might have had a credit score that was slightly lower than it is now, which means you might have signed a loan agreement with a little higher interest rate than you’d qualify for if you tried to get that same loan now.
Perhaps your car has had some aftermarket upgrades that have boosted its value, or maybe loan rates are just lower now than they were when you bought the car. Whatever the situation, refinancing the loan could drop your rate and give you a better deal. There are quite a few lenders who help consumers save on their auto loans. Be sure to read reviews of many companies before choosing one, however.
Refinancing your mortgage is a lot like getting the initial loan. You might need an appraisal, and there will be closing costs or other fees. What makes a mortgage refinance special, however, is that in some cases you can use it to pay off other debts.
There are several types of mortgage refinances. The typical refi is done if you want a lower interest rate or lower monthly payment; the existing loan balance is made into a new loan, with new terms and rate. The proceeds from that new loan are used to pay off the existing mortgage, effectively putting the balance of the account under the new terms.
A cash-out refi lets you also take out some of the equity that’s built up in the home, and you can use that cash to pay off other debts, basically ‘refinancing’ the other debt under the terms of the refinance.
Regardless of what type of debt you have, there’s probably a way to refinance it—and doing so can save you a lot of money. Don’t assume that you’re locked into a loan term or high interest rate. Look at your refinance options, and see if you can get a better deal.
Thanks, Tom. You make some good points there.
I would encourage anyone who is slogging through a large debt load (student loans or mortgages) to consider refinancing to help lighten the load and save money.
However, for credit cards and car loans, in my opinion refinancing these debts simply moves the debt around and does not address the behaviour that created these debts in the first place. Also the balances on these debts are usually small enough that refinancing won’t save much anyway.
For credit cards and car loans, I would recommend that you buckle down, and just get rid of them as soon as possible.
What do you think? Have you found success refinancing some or all of your debt?
Let Tom and I know in the comments below, and thanks for reading and sharing.