But I don’t understand how certain situations work.
For example.
I buy a house worth $400,000 with a 300,000 mortgage.
After 3 years the house value goes up to $600,000 and I owe $250,000 in mortgage.
Is there a way to get money out of this?
Is this a time to refinance the mortgage?
Can I use the value increase of the house to lower the mortgage in any way?
What happens if the house value goes down?
My $400,000 is now worth $300,000?
Do I pay the difference to the bank?
You can’t use the value increase to lower the mortgage (by which I assume you mean payment), but you can refi for the new amount owed of $250,000 which will lower your payments. But you have to look at how much your payments will go down to decide if it’s worth it. For example, if your payments will go down by $100 and closing costs will be $3000, it’s worth it if you plan to be in the house for at least 2.5 years.
If the value goes down, and it has been lately, the bank doesn’t really care. You just keep making your payments. Regardless of the value of the house, your loan value will remain the same.
If the value goes up, you can get the money out. The bank will have the house appraised and you can get a new loan for (typically) up to 80% of the new value and a line of credit against it that can bring the total amount owed to 90%. So if the house goes up to 600,000 you could get a new loan for $540,000 and since you only own $250,000, you could, in theory, put $290,000 in cash in your pocket. Of course it would be a loan and you would still owe that money to the bank.
Warning - all my answers are US-centric.
You could sell the house for $600,000 and pocket the $350,000 difference.
You could take out a home equity loan (basically a second mortgage) - the limit is based on the current value of the house at the time you take out the loan. Given the current 80% Loan-to-Value limits, you could borrow another $230,000 (i.e. you can’t owe more than 80% of what the house is currently worth.
Maybe, maybe not That depends a lot more on your mortgage interest rate vs. the current offered rate. Just because the value of the house has gone up doesn’t mean you can get a better rate than you already have.
Not really. Unless something happened like you went from a jumbo to a conforming loan, or you could eliminate PMI, which generally doesn’t require a refi, just a reappraisal.
Only if you want to sell the house. If you’re just paying off your mortgate monthly, it doesn’t matter to the terms of the loan if the house triples in value or loses 90% of its value - the bank can’t change your mortgage unilaterally.
Yes. The difference between what you owe and what the home is worth is called “equity”. You can either borrow against the equity or you can just refinance. Most people have a Home Equity Line of Credit (HELOC). It’s basically a credit line that has a maximum of whatever your equity is in the home. They typically have low interest rates, but you should think of them just like a credit card.
It depends on your financial goals. Let’s say you start with a $300,000 in the year 2000 and the term is 30 years. By 2010, you owe, say, $250,000. That money is still going to be due by 2030. In other words, once 2030 rolls around, you’ll be debt free.
If you have 20 years left on your 30-year mortgage for $x, and another guy decided to take out a 20-year mortgage for $x that same day, then you two will have the exact same loan. The fact that your loan is 10 years older is entirely irrelevant. If you were to refinance for a 20-year mortage at the same rate you have now, you’ll gain nothing. In fact, you’ll lose money because you have to pay fees to get the loan.
So if you refinance with a standard 30-yr mortgage, you’ll go from owing $250,000 over the next 20 years to owing $250,000 over the next 30 years. You won’t be debt free until 2040 now, instead of 2030. This is why your payment drops. I shouldn’t have to point out to you, though, that you’ll be paying down the loan slower and thus paying more interest over the long run.
So why would anyone refinance ever? Because they can get a better interest rate. All the above assumes that the interest rates are the same for all the loans. Today, they’re not. Hopping over to bankrate.com, we see that the 30-yr fixed prime rate is about 4.6%. That gives you some idea of what to expect. I don’t know your current rate or credit history, so I can’t tell you what rates you, specifcally, can get.
So, you asked “Is it time to refinance?” Ask yourself two questions:
Can I get a significantly better rate?
Do I want lower payments now in exchange for paying more over the long run?
If you answer yes to those questions, then you should refinance.
Besides the HELOC, the house is a different entity than the loan. What you have now is a loan for, say, $250,000 that you have to pay back at a certain interest rate over a certain time frame. If you refinance, you’ll refi for that $250,000, not some other number. No matter what you do, you’ll still owe $250,000 to the bank. You can sell your house (or blood or car or daughter) to pay it back, you can get a new loan to pay off the old one (refinance) or you can just have two loans (second mortgage). That’s about it.
Over time, yes, you will pay the bank the difference. You’re going to pay the loan back one way or another, plus any interest you owe. The question is whether you’ll get a product that’s worth what you paid for it.
The only way you’ll pay a lump sum of the $100,000 difference is when you sell the house. Someone will pay you $300,000 for the house, which you’ll give to the bank immediately, and yet you’ll still owe the bank $100,000. So in that sense, you’re paying the difference, yes.
Think of it this way: A guy on the street sells me a mystery box for $5. I open it to find a $1 pack of gum. Did I pay him the $4 difference? Depends on how you look at it, and how you define “pay the difference”.