Refinance mortgage to increase cash flow/savings?

[DCKatie09]

Long-time reader, first time poster.

My husband and I bought our house in August 2011 with a 30 year fixed-rate mortgage for $380K, 10% down, no PMI, at a rate of 4.5%. Four years later, the assessed value of the house is up nearly $100K, and the mortgage balance is at $355K.
Our current monthly payment is $2490 ($1930 P+I).

Question is, should we refinance to a 5/5 ARM to increase cash flow so we can step up our investments/savings more aggressively? We're currently maxing out our 401Ks and IRAs and have a decent little stash started in Vanguard index funds. Odds are 50%+ that we'll still be in this house in 5 years, but substantially lower that we'll still be here in 10 (we're hoping to FIRE in 10ish years, and a move for a job change is not unlikely). A 5/1 ARM seems too risky with our mid-range plans so much in flux, but the 5/5 is tempting. Published rates are 3.175%, which would drop our monthly payment by about $500, freeing up around $30K over the next 5 years to invest. Not sure about closing costs, but it seems like they wouldn't be more than about $2000.

Are we missing something? Other major things to consider? Paying off the mortgage aggressively isn't appealing given low rates and our uncertain future plans, but this seems like a nice way to increase cash flow. Thanks!

[Joel]

You want to give up a fixed 4.5% rate for an adjustable rate? Why?

[forummm]

The reason to do this wouldn't be "cash flow". It would be "cutting costs"--i.e. cutting the money you were spending on interest. If your closing costs would be under $2k, your lower interest costs would give you a 5 month payback. That's pretty good. The only downside is that with an ARM, you're increasing your risk of future rates being much higher.

If you are *certain* you will be out of the house in 5 years, it's a good deal. If you are unsure (as you state) you should check in to rates for a 7/1, 10/1, and 30-year fixed. If the cost differences are small, it might be more advantageous to pick a readjustement period similar to your intended occupancy.

[forummm]

Something else is that I don't think the 5/1 ARM is much worse than the 5/5 ARM. What if interest rates are unusually high at year 5 but then go back down the next 5 years? You lose out.

So I check out rates because I was curious. Using aimloan.com (I just picked them because they have a great tool that shows a ton of rate options and costs), and your information for my county I get:

(Picking my favorite options. Closing costs include appraisal, attorney, title insurance, and everything else.)
30yr fixed, $2k closing, 4%
20yr fixed, $500 closing, 3.875%
15 yr fixed, $1700 closing, 3.25% ($2500 monthly payment!)
10/1 ARM, $145 closing, 3.625%
7/1 ARM, $600 closing, 3.375%
5/1 ARM, $800 closing, 3.125%

So I think you should definitely refinance if you can get rates like these. But of these options, and given that you could be in your house for over 10 years, but expect to be gone before 15 (assuming I understand your situation correctly you'd definitely FIRE and have moved by then), I would do the 15 year fixed. Your payment would not change, but you would be building equity at over twice the rate (1/2 the term and lower interest rate)!

[frugaliknowit]

Echo Joel.

It makes NO SENSE to me to go from a fixed rate loan to a variable.

[fishnfool]

I wouldn't do this refi unless you're 100% certain you would be selling the house when the loan readjusts.
I did a 3% 7 yr arm no cost loan recently to get rid of a helicopter that was coming due. But it only made sense for us because we're selling in 5 years.

[DCKatie09]

Thanks, all! Yeah, the real question for us is whether it's worth the risk that we might still be here in 5 years (or 7 - some 7/1 rates look good too) when we could cut our payments by $500/month, and thus add an extra $30,000+ to our investments over 5 years. Increased risk + increased taxable investments vs. plugging away at equity when we're pretty sure we won't be here long-term.

[DCKatie09]

Slightly more risk averse option we're looking at - a 10/1 ARM (it's very unlikely we'll still be here in 10) at 3.25%, dropping our monthly payments by $325, freeing up nearly $40K to invest over the next 10 years. Closing costs would be recouped within a year. I think it's not crazy...

[I'm a red panda]

I would not go from fixed to ARM.  If you were going from fixed, to lower fixed- that I'd do.

[DoNorth]

Something else is that I don't think the 5/1 ARM is much worse than the 5/5 ARM. What if interest rates are unusually high at year 5 but then go back down the next 5 years? You lose out.

So I check out rates because I was curious. Using aimloan.com (I just picked them because they have a great tool that shows a ton of rate options and costs), and your information for my county I get:

(Picking my favorite options. Closing costs include appraisal, attorney, title insurance, and everything else.)
30yr fixed, $2k closing, 4%
20yr fixed, $500 closing, 3.875%
15 yr fixed, $1700 closing, 3.25% ($2500 monthly payment!)
10/1 ARM, $145 closing, 3.625%
7/1 ARM, $600 closing, 3.375%
5/1 ARM, $800 closing, 3.125%

So I think you should definitely refinance if you can get rates like these. But of these options, and given that you could be in your house for over 10 years, but expect to be gone before 15 (assuming I understand your situation correctly you'd definitely FIRE and have moved by then), I would do the 15 year fixed. Your payment would not change, but you would be building equity at over twice the rate (1/2 the term and lower interest rate)!

I don't think they included taxes and insurance in that 15 year quote.

[forummm]

Something else is that I don't think the 5/1 ARM is much worse than the 5/5 ARM. What if interest rates are unusually high at year 5 but then go back down the next 5 years? You lose out.

So I check out rates because I was curious. Using aimloan.com (I just picked them because they have a great tool that shows a ton of rate options and costs), and your information for my county I get:

(Picking my favorite options. Closing costs include appraisal, attorney, title insurance, and everything else.)
30yr fixed, $2k closing, 4%
20yr fixed, $500 closing, 3.875%
15 yr fixed, $1700 closing, 3.25% ($2500 monthly payment!)
10/1 ARM, $145 closing, 3.625%
7/1 ARM, $600 closing, 3.375%
5/1 ARM, $800 closing, 3.125%

So I think you should definitely refinance if you can get rates like these. But of these options, and given that you could be in your house for over 10 years, but expect to be gone before 15 (assuming I understand your situation correctly you'd definitely FIRE and have moved by then), I would do the 15 year fixed. Your payment would not change, but you would be building equity at over twice the rate (1/2 the term and lower interest rate)!

I don't think they included taxes and insurance in that 15 year quote.

OP said P+I for their $2500 current expenditure, so assume they didn't either.

[DCKatie09]

Something else is that I don't think the 5/1 ARM is much worse than the 5/5 ARM. What if interest rates are unusually high at year 5 but then go back down the next 5 years? You lose out.

So I check out rates because I was curious. Using aimloan.com (I just picked them because they have a great tool that shows a ton of rate options and costs), and your information for my county I get:

(Picking my favorite options. Closing costs include appraisal, attorney, title insurance, and everything else.)
30yr fixed, $2k closing, 4%
20yr fixed, $500 closing, 3.875%
15 yr fixed, $1700 closing, 3.25% ($2500 monthly payment!)
10/1 ARM, $145 closing, 3.625%
7/1 ARM, $600 closing, 3.375%
5/1 ARM, $800 closing, 3.125%

So I think you should definitely refinance if you can get rates like these. But of these options, and given that you could be in your house for over 10 years, but expect to be gone before 15 (assuming I understand your situation correctly you'd definitely FIRE and have moved by then), I would do the 15 year fixed. Your payment would not change, but you would be building equity at over twice the rate (1/2 the term and lower interest rate)!

I don't think they included taxes and insurance in that 15 year quote.

OP said P+I for their $2500 current expenditure, so assume they didn't either.

Just to clarify, our current P+I is about $1950, $2500 is with PITI. So a 15 year fixed would be a big jump for us. But this rate on the 10 year ARM is pretty tempting.

[frugaliknowit]

Find other way(s) to be more efficient.  Taking the risk of an ARM is just NOT worth it.  You cannot predict with enough certainty when/if you are going to move and what rates will be in the future.  Look at the higher fixed rate as similar to homeowner's or liability insurance.  Nothing's likely to happen, but it could sink you...