Smart Strategies for Financing and Refinancing Your Home

A house purchase is often one of the largest financial investments people make in their lifetime. Whether it’s buying your first home, refinancing an existing house, or purchasing a vacation home, the decision of financing or refinancing a home can be filled with complexity and nuance. 

Here, we’ll cover the most common questions we get from clients about homeownership financing, including the benefits of owning a home, how to build equity, whether or not to pay off your mortgage early, and more.

Homeownership as a wealth-building strategy

There are many factors to consider when deciding whether to rent or buy a home. However, in general, if you have a stable income and have done the math to ensure that you could comfortably cover your estimated mortgage payment, homeownership might be a great financial option. This is because your house provides not only a place to live, but also the opportunity to build long-term wealth through equity.

When you decide to buy a home within your budget and to finance the purchase with a mortgage rather than paying cash outright, you’ll be making monthly payments composed of principal and interest. As you make payments over time, you’ll be paying down more of your principal which can help you build more equity in the home. 

While nobody can guarantee that the value of your home will go up, if it does and you later decide to sell it or take out a home equity loan, you’ll be able to make a larger return on your money because of how you were able to leverage your money.

If you have enough cash to buy a house outright, read on to see our take on whether you should still seek financing for your home or not.

Should you use your cash to buy a home?

Many of our clients ask us whether they should use their existing cash or even the money in their investment accounts to purchase a house outright or to pay off an existing mortgage. The answer depends on how much of a return you’re earning on that cash. 

For example, let’s say your mortgage rate is 5% and you have your money invested in a diversified portfolio that has steadily been earning an average 8-10% return. In this case, it may be best to leave your money invested and just make your monthly mortgage payments because you’re actually still earning the 3-5% difference between your mortgage rate and your investment portfolio. 

However, if you have your money in cash or a savings account earning only 2% interest while you’re paying 7% on a mortgage note, that may be a different story. While we wouldn’t suggest using all your cash to pay off a mortgage, you may consider refinancing or other options to cut down your mortgage to reduce your interest expenses.

When is refinancing your home a right move?

If you currently have a mortgage on your home and interest rates are lower than what they were when you got your mortgage, you may be wondering if refinancing is a smart move.

The general rule of thumb we’d suggest is that if you can reduce your interest rate by at least 0.75%, it’s worth exploring refinancing options. Lowering your interest rate can reduce your monthly payments and save you a lot of money in the long run.

However, refinancing isn’t always the best decision, especially if you’re planning to move in the near future. If you’re thinking of moving within two years, for example, refinancing may not be worthwhile.

Refinancing involves significant closing costs, and it usually only makes sense if you’ll stay in the home long enough to recoup those costs. Ideally, you should aim to cover closing costs with about 6 to 12 months of saved payments. 

Refinancing tip: If you recently bought your home and interest rates have dropped, your lender might offer refinancing options with minimal costs, allowing you to benefit from lower rates without incurring hefty fees. This is particularly relevant if you have a VA mortgage or a second mortgage, both of which have specific refinancing conditions.

Should you pay off your mortgage early?

Paying off a mortgage early is a question many homeowners grapple with, particularly as they near retirement. While the idea of being debt-free is appealing, it’s not always the most financially sound decision. 

If the potential return on your investments is higher than your mortgage rates, keeping the mortgage and investing your money (or keeping it invested) might make more sense. It’s the same as the scenario we described above when considering whether to use cash to buy your home outright.

However, there’s also an emotional component to consider. Some homeowners prefer the peace of mind that comes with being debt-free, especially as they age. This is a personal choice, but it’s important to weigh the opportunity cost.

Choosing between a 15-year or a 30-Year mortgage  

The choice between a 15-year and 30-year mortgage is a big one, and both have their advantages. A 15-year mortgage comes with higher monthly payments but a lower interest rate, allowing you to pay off the loan faster and save on interest. On the other hand, a 30-year mortgage offers lower monthly payments, which provides more financial flexibility and breathing room.

If you’re confident that you can handle higher monthly payments and want to save on interest, a 15-year mortgage could be the right choice. However, many homeowners prefer the flexibility of a 30-year mortgage. 

You can always pay more toward the principal when you have extra cash, effectively shortening the loan term, but you won’t be locked into the higher payments of a 15-year loan. Having the option to overpay without the pressure of higher required payments can be a good strategy for many.

ARM vs. fixed-rate mortgages: What’s the best choice?

When deciding between an adjustable-rate mortgage (ARM) and a fixed-rate mortgage, it's important to consider your long-term plans. An ARM typically offers lower rates in the early years, but after the initial fixed period, the interest rate can fluctuate based on market conditions. While this can save you money in the short term, it also introduces uncertainty, especially if interest rates rise.

On the other hand, a fixed-rate mortgage provides stability. Your interest rate stays the same throughout the life of the loan, which means your monthly payments won’t change. This makes budgeting easier and offers peace of mind, especially if you're planning to stay in your home for a long time. 

The predictability of a fixed-rate mortgage can outweigh the potential short-term savings of an ARM, particularly in a volatile interest rate environment.

Leverage the tax benefits of owning a home

Owning a home comes with several financial advantages, and one of the most significant perks is the tax benefits. Homeowners can often take advantage of deductions that lower their taxable income, leading to potential savings when filing taxes. 

One of the most commonly used tax benefits is the ability to deduct mortgage interest. If you itemize your deductions, you can deduct the interest you pay on your mortgage, especially in the early years of your loan when the majority of your payments go toward interest.

In addition to mortgage interest, you may also be able to deduct property taxes. These are often some of the largest tax deductions homeowners can claim, and they can significantly reduce the amount you owe to the IRS each year. 

The benefits of owning a home for taxes could also apply when it comes time to sell your property. If you’ve lived in your home for at least two of the last five years, you can exclude up to $250,000 of capital gains if you’re single, or $500,000 if you’re married, from taxes. This can make a big difference when selling your home at a profit, allowing you to keep more of your earnings.

How to build home equity

Learning how to build home equity is key to leveraging your home as a financial asset that can provide security and opportunities in the future. Equity is the difference between your home's market value and what you owe on your mortgage, and it grows over time as you pay down your loan and your home appreciates in value.

One effective strategy to build home equity faster is to make extra payments toward your mortgage principal. Even small additional payments each month can add up significantly over the life of your loan, accelerating your equity growth.

You can also increase your home equity by making strategic home improvements. Renovations that increase your home’s value, such as kitchen or bathroom upgrades, can directly contribute to higher equity. Keep in mind that not all improvements yield the same return on investment, so it’s important to focus on those that add real value to your home.

Lastly, simply staying in your home long-term can help build equity, as real estate tends to appreciate over time. While the market may fluctuate in the short term, long-term homeowners typically see their property values rise. 

How does homeownership affect your financial plan?

Making informed decisions about homeownership financing is essential for long-term financial success. Whether you’re thinking about refinancing, paying off your mortgage early, or choosing between a 15-year or 30-year mortgage, understanding the pros and cons of each option can help you maximize the financial benefits of owning a home. 

Always consider your unique situation and consult with a financial expert if needed to find the best approach for your homeownership journey. Click here to schedule a complimentary consultation with one of our financial advisors in Tampa, serving clients in Florida and nationwide.