When you last refinanced your home mortgage, did you pull out extra money? Did you cash out?
If your answer is no, you are part of an unheralded but significant new trend among American home owners: People who are still refinancing their loans to cut monthly payments or shorten their payback terms, but not extracting additional cash.
The trend is so pronounced, according to mortgage industry analysts, that refi cash-outs have just hit their lowest level in decades, and perhaps ever. According to giant mortgage investor Freddie Mac, only 32 percent of all refinancings during the third quarter of this year involved cash-outs of additional money beyond the existing loan balance. That is down from the 60 percent-plus cash-out proportions typical during the height of the refi boom in 2001 and 2002, and the all-time record of 93 percent set in mid-1989.
Cashing out, by Freddie Mac's definition, involves refinancing an existing mortgage and replacing it with a new loan that is at least 5 percent larger. Cash-outs require sufficient home equity to support the additional money being withdrawn. They also frequently come with a slightly higher interest rate than the lowest available to the borrower. You pay a slight premium -- generally anywhere from one-eighth of a percentage point to one-fourth of a point -- when you add more debt to the house than you had earlier.
But that has rarely dampened the popularity of cash-outs. After all, if you refinance your house and lower your rate while at the same time pulling out an extra $25,000 -- tax-free -- to get rid of other credit bills or pay for the kids' tuitions, then why not?
Cash-outs were so significant in propping up consumer spending during the recent recession that Fed Chairman Alan Greenspan called home equity "monetization" one of the key supports of the national economy overall.
So what is happening now? Why the apparent cash-out fizzle? Freddie Mac deputy chief economist Amy Crews Cutts says that many home owners have already refinanced once or more during the past few years. They have already pulled out cash and are now focusing primarily on lowering monthly payments or shortening their loan terms.
Reducing the rate on an average-sized $140,000 mortgage by 1.3 points -- the average refi rate reduction last quarter -- lowers the home owner's monthly payments by about $120, and saves the owner $1,440 during the first year alone. That is spendable money in the home owner's wallet, notes Cutts, and has a positive effect on household economic well-being and the national economy as well.
But it does not add to the home owner's debt burden as cash-outs do, so it's a smart move.
"We are seeing a different kind of borrower these days," says Cutts, "a more sophisticated borrower" who isn't simply piling on debt but sees his or her home mortgage as a central tool to managing and planning personal finances.
Unlike their counterparts in earlier decades, American home owners today are more experienced at refinancing and more knowledgeable about the entire mortgage process, according to Cutts.
"They've refinanced a couple of times, they know more" about mortgages than home owners in the past, she says. As a result, the vast bulk of current refinancers are looking to make the most of the lowest interest rates in recent history. Though 30-year fixed-rate mortgages bottomed out at a record 5.21 percent last June, today's prevailing rates are just three-quarters of a percentage point higher.
Rates today still are close to levels in the 1960s, and they may well be the lowest anyone is going to see again for decades. No wonder, then, that refinancing still represents half of all current mortgage activity -- half of an estimated $3.3 trillion marketplace this year alone.
How long can all this refi mania keep up? Are there actually home owners out there who are sitting with loans that are excellent refi prospects?
You better believe it: Fully one out of five mortgages in Freddie Mac's giant portfolio earlier this year carried rates of 7 to 7 1/2 percent. Another 14 percent carried rates of 7 1/2 to 9 percent. And 1.4 percent were over 9 percent.
Add in the one-quarter of all borrowers whose loan rates are now between 6 1/2 and 7 percent, and you've got a huge potential for still more refinancing on the horizon if rates stay at, or below, 6 percent.
And if current trends continue, fewer and fewer of those future refinancers will want to cash out equity -- and add to household debt burdens -- when they apply for their new loans.
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