Is It Worth Refinancing to a 10 Year Mortgage?

Refinancing your mortgage can be a great way to save money on interest and pay off your home faster. But is it always worth it especially if you refinance to a shorter 10 year term? There are pros and cons to weigh when considering refinancing to a 10 year mortgage.

What is Refinancing?

First, let’s review what refinancing means. Refinancing is the process of paying off your existing mortgage and replacing it with a new loan, ideally with better terms.

When you refinance, you take out a new mortgage loan to pay off the old one. You go through a new application, credit check, appraisal, and loan closing process The goal is to get a lower interest rate, change your loan term, or tap into your home equity to get cash out

Refinancing can make sense if you can lower your interest rate by 0.5-1% or more. Shortening your loan term from 30 years to 10 years also builds equity faster, though your monthly payments will be higher

Pros of a 10 Year Mortgage Refinance

Let’s look at some potential advantages of refinancing to a 10 year mortgage term.

1. Pay Off Your Home Faster

The shorter 10 year term means you’ll pay off your entire mortgage in 10 years instead of 30. This allows you to build equity and own your home outright much faster.

For example, on a $250,000 mortgage at 4% interest, monthly payments would be about $2,150 on a 10 year term, versus $1,200 on a 30 year term. While the payment jumps significantly, you save over $95,000 in interest and are mortgage free in 10 years.

2. Lower Interest Rate Possible

Interest rates are often lower for 10 year mortgages than 30 year loans. This means your overall interest costs could be lower, saving you money.

Even a 0.25-0.5% rate drop on a 10 year term can make a noticeable difference. On a $200,000 balance at 4% over 10 years, a 0.5% decrease to 3.5% would save about $5,600 in interest.

3. Smaller Loan Amount

Since you’ve already been paying down your mortgage for a few years, the new refinanced balance will be lower than your original amount borrowed. This smaller loan principal can offset some of the payment increase from the shorter term.

For instance, if you refinance $180,000 remaining on a $250,000 mortgage to a 10 year term, this lower balance makes the payment more affordable than when you first bought the home.

4. Forced Savings

The higher monthly mortgage payment can also serve as forced savings. By paying extra principal each month, it’s like making contributions to your net worth.

If you tend to spend extra cash flow rather than save it, the 10 year term disciplines you to build equity faster through higher payments.

5. End Result Is Being Mortgage Free

At the end of the 10 years, your mortgage will be completely paid off. You’ll own your home free and clear, which is a great financial position to be in.

No more monthly payments leaves you with extra cash flow for other goals, like college savings or retirement.

Cons of Refinancing to a 10 Year Term

However, there are also some potential drawbacks to refinancing to a 10 year mortgage:

1. Higher Monthly Payments

As noted above, your principal and interest payment will be significantly higher on a 10 year loan compared to 30 years, likely several hundred dollars more per month. This increased payment could strain your monthly budget.

Make sure you’ve budgeted properly and can afford the higher payment for the next decade before committing to it.

2. Closing Costs

Just like an initial home purchase, refinancing comes with closing costs including origination fees, appraisal, and more. Closing costs typically run 2-5% of your loan amount.

On a $200,000 mortgage, you may pay $4,000-$10,000 in closing costs. This is an upfront expense you’ll need to recoup through interest savings over time.

3. Length of Time in Home

If you may move or sell the home within the next 5-10 years, the shorter 10 year term likely won’t pay off. You want to stay in the home long enough to recoup costs and realize some equity benefits.

Likewise, if you have needs that will require a cash-out refi soon, a 10 year term reduces your flexibility. Carefully consider your timeline for staying put.

4. Loss of Flexibility

The larger payment leaves you with less extra cash each month for other financial goals and optional expenses. While this forced savings can be good, the lack of wiggle room in your budget is something to think about.

If you value flexibility with your cash flow, the rigid payment of a 10 year mortgage reduces that.

5. Prepayment Penalties

Some 10 year mortgages come with prepayment penalties if you pay off the loan early or refinance within the first few years. This is an extra cost to be aware of if you go this route.

Key Factors To Consider

When weighing if refinancing to a 10 year term is worth it, here are some key factors to evaluate:

• Interest rate difference – How much lower is the rate compared to your current mortgage? The bigger the spread, the more worthwhile it is.

• Closing costs – Estimate total upfront costs and determine the break even point where interest savings outweighs costs.

• Monthly payment difference – Calculate the increase in payment and make sure it fits your budget comfortably.

• Years remaining – The more years you have left, the more impact going to a 10 year term can make.

• Timeline in home – Consider your plans to live there beyond 10 years to realize the most equity benefit.

• Future flexibility needs – Think about whether you want to preserve cash flow flexibility beyond your mortgage.

The Bottom Line

Refinancing to a 10 year mortgage term can allow you to pay off your home faster, often at a lower interest rate. This builds equity quicker and saves on total interest costs.

However, the higher payment is a big commitment and you’ll need to recoup closing costs to make it pay off. Look closely at your budget, timeline, and financial situation to determine if the pros outweigh any cons for your situation. While not right for everyone, for some the benefits of a 10 year mortgage refi can certainly be worth it.