Refinance Mortgate Rule of Thumbs

I want to refinance one of my properties. I want to know what is the differential interest rate that worth it for me to refinance. I read few articles some articles suggest to refinance if the interest difference is 2%. But sometime it is acceptable if 1%.

Without getting firm rules of thumb from reading few articles. I decided to calculate myself what would be the good rules of thumb to refinance mortgage.

Reasons to Refinance Mortgage

First let say what would be possible reasons to refinance.

  1. To Lower Monthly Payment
  2. To Change from Floating Interest Mortgage to Fixed Interest Mortgage
  3. To Cash Out To Use the Money for Personal or Investment
  4. To Shorten The Mortgage Tenure

In my case, I want to cash out and use the money for investment. My intention is to park the cash out money into ASB (Amanah Saham Bumiputra) earning yearly dividend of 7%.

Refinance Analysis

Below is the scenario that I use to do my analysis.

Initial Loan Amount (Before Refinance): RM100,000
Loan Tenure: 30 years
Interest Rate: 5.35%
Monthly Payment: RM558

housing loan RM100k
housing loan RM100k
Assumptions:
  1. The current housing loan is already being paid for the last 10 years. So the tenure balance is another 20 years.
  2. The interest is fixed during the tenure even though it is a floating interest.
Refinance Mortgage Costs:

When refinance, there will be cost as follows:-

  1. Legal fee for the loan documents.
  2. MRTA or MLTT (I use MRTA and wants its to cover the loan for 10 years only)
  3. Legal fee on strata title or MOT as to charge to the new bank
  4. Property valuation fee.
housing loan refinancing cost
housing loan refinancing cost

Explanation Of Terms Used

analysis refinance interest spread
analysis refinance interest spread

Interest Difference
The difference between the current loan interest rate vs the refinancing loan @ new loan.

Effective Rate
Interest of the refinancing loan.

Tenure (years)
In the analysis, I use the remaining 20 years to refinance the previous loan balance.

Monthly Installment
The monthly payment for the refinancing loan.

Total Interest Paid
Total interest paid for the refinancing loan over 20 years of tenure

Total Saving Over Tenure
Total saving from reduction of interest paid (the difference between previous loan vsĀ  refinancing loan) plus total monthly installment save from the previous loan vs refinancing loan over 20 years of tenure.

Net Saving
Total Saving Over Tenure minus out the refinancing cost.

CAGR Net Saving / Financing Cost
CAGR is over 20 years. The bigger the number the better.

Opportunity Lost @ 7%
By how much the refinancing cost will grow by putting it into ASB and earning 7% per year over 20 years.

Conclusion

The acceptable return is when the interest difference is 1.25% as CAGR is 6.60% and Total Saving / Opportunity Lost is 113.70% means total saving can cover the refinancing cost with dividend 0f 7%.

Important to notes even at 1% interest difference the CAGR is at 5.16% and Total Saving / Opportunity Lost is 92.43% which I think is commendable return.

 

References:

Excel used to calculate, you can download and do your own conclusion.