Refinancing for Retirement: Is It a Smart Move?

When done strategically, a mortgage refinance can help strengthen your finances ahead of retirement. The goal is to secure a lower interest rate, which can help bring down your monthly payment and free up more cash to put toward your nest egg.

Refinancing can also help pay off your mortgage faster if you opt for a shorter loan term. But modifying your home loan at this stage of the game can be a big financial decision, so you'll want to weigh the pros and cons before moving forward.

What is Refinancing?

There are two main types of refinance loans:

• Rate-and-term refinancing: When you refinance, you take out a new home loan to replace your original mortgage. You're essentially starting fresh and will have a new loan term, interest rate, and monthly payment.
• Cash-out refinancing: This works the same way as a rate-and-term refinance, except that you'll borrow an amount that exceeds your current loan balance. You’ll then receive the difference in cash. That money can be used for anything you like, such as covering a financial emergency, providing retirement income, or pursuing debt consolidation.

Pros and Cons of Refinancing as Part of Retirement Planning

Choosing to refinance before you retire can have some attractive benefits, such as smaller monthly payments and the ability to change your loan term. In the end, the pros and cons will really depend upon factors like your current mortgage rate, your break-even point, closing costs, and the terms of your new loan.

Pros of Refinancing Before Retirement

Below are several potential positive outcomes of refinancing your home when you’re close to retirement:

Lower Monthly Payments

When you pay your mortgage each month, that amount goes toward interest and repaying the principal amount borrowed. The higher your interest rate, the more your monthly payment will be. Mortgage refinancing could allow you to secure a lower interest rate, which should reduce your monthly mortgage payments, essentially freeing up extra cash to bolster your retirement savings or create more breathing room in your budget when you're no longer working.

Shorter Loan Terms

Mortgages are generally available in 15-, 20- or 30-year terms. Refinancing gives you the ability to change your loan term, which can help you pay off your mortgage at a faster rate. Depending on how you time it, you may be able to eliminate your mortgage payment before you retire. That could significantly reduce your income needs when you're no longer working.

Just be aware that a shorter loan term can result in a higher monthly payment if your repayment period is condensed from, let’s say, a 30-year-mortgage to a 15-year loan. But overall, you'll pay less interest over the life of the loan.

Cashing Out on Equity

Going with a cash-out refinance loan could provide a lump sum of cash before retirement, which you can use for other financial needs in your later years, such as:

• Paying off high-interest credit cards or student loans that you or your kids may have outstanding
• Making home improvements to increase your property’s market value
• Covering medical bills
• Investing in tax-advantaged retirement accounts or other short-term savings options
• Necessary home improvements that could come with a hefty price tag later down the line

You may also want to take the money to spend on travel or a retirement home. Either way, taking advantage of a cash-out refinance could help you enter retirement on stronger financial ground.

Cons of Refinancing Before Retirement

Below are several considerations that may impact your decision to refinance if you're nearing too close to retirement.

Closing Costs

Refinancing involves taking out a new mortgage, which means that closing costs come with the territory. These fees, which usually consist of lender fees and fees paid to third-party service providers, can range from 3% to 6% of your new loan amount.

That can add up to a big expense if you're borrowing a significant amount of money—and closing costs are usually due upfront. You may have the option to roll these costs into your mortgage, but that will increase your monthly payments and impact your cash flow. You'll also pay more interest on the loan from start to finish if you bump up the amount you’re borrowing. But these initial costs may be worth it if refinancing saves you money over the long haul.

Break-Even Point Timing

Your housing plans are an important factor to consider. If you're planning on staying in the home long term, refinancing could be worth it—but you may not have time to recoup your closing costs if you move before reaching your break-even point.

Calculating your break-even point can help you determine if the savings outweigh the up-front expense of refinancing and how many months it will take to recoup those costs. To figure out your break-even point, add up your closing costs, then divide that by the amount your new mortgage payment will save you each month.

Retirement Timeline

If you're approaching retirement, you'll want to consider your monthly budget and how much you can reasonably afford in terms of your monthly payment. If retirement is a long way out, refinancing your mortgage now could allow you to net long-term savings—but not if mortgage interest rates have increased since you took out your original home loan. You may also want to steer away from refinancing with a 30-year loan if you’re close to paying off your current mortgage and you’re close to being debt-free.

Should You Refinance Before Retiring?

A financial advisor may recommend refinancing as a way to reduce your housing costs in retirement—or to help you pay off a high-interest mortgage before retiring. Every person's financial situation and goals are different. In some cases, refinancing may not make sense.

Before deciding, consider your retirement goals. That includes where you want to live, how you want to spend your time, and the lifestyle you want to maintain. Is your nest egg currently on track to support that vision? Or do you need to access some extra cash?

A refinance calculator may also be able to help you run the numbers on whether you should stick with your existing mortgage or adjust your financial plan.

How to Refinance for Retirement

If you've decided that refinancing is worth it, it's time to get your financial ducks in a row. Here's how you can start the process if you’re considering a refinance before retirement.

• Find a lender: It's wise to shop around and compare mortgage rates, fees, and customer reviews from multiple lenders. That can help you compare potential savings, find the best refinance home loan, and partner with a reputable lender.
• Decide your loan details: Will you be changing your loan term? Or switching from an adjustable-rate mortgage to a fixed-rate mortgage? You may also want to change from a government-backed mortgage, like an FHA loan, to a conventional loan.
• Check your credit score: Every lender has its own credit score requirements, and your credit health can directly impact your new interest rate. Most lenders require a credit score of at least 620 to qualify for a conventional mortgage.
• Calculate your home equity: Your home equity is the amount of your home value that's yours. You'll have 100% equity and own your home free and clear when you pay off your mortgage. Lenders typically require at least 5% home equity to refinance. You can figure out your equity level by subtracting what you owe on your mortgage from your property's appraised value.
• Apply for your refinance loan: Whether you're seeking a traditional refinance loan or a cash-out refinance, you'll likely need to provide two years of W-2s, pay stubs from the last 30 days, bank statements for the last two months, and your most recent mortgage statement.

The Bottom Line

Refinancing while you're still working could help set the stage for a comfortable, financially stable retirement—especially if it helps bring down your housing costs or get mortgage-free faster. But it's a decision that could impact your other long-term goals, so it's wise to consult a financial advisor before making a decision that could drastically impact your retirement planning.