Dear Liz: You recently advised a couple who were in sound financial shape about possibly refinancing their home loan to a lower interest rate. You suggested a 15-year loan to make sure they entered retirement without a mortgage. Why not recommend getting a 30-year loan to get the lowest required monthly payment, then making extra payments to get the loan paid off faster? This approach offers the flexibility of being able to drop back to the lower payment in the event of a job loss or other financial setback. They sounded like well-disciplined people and probably could turn that 30-year loan into a 15-year loan by paying 13 payments a year instead of 12.
Answer: Refinancing to a 30-year loan can certainly make sense for people who want to lock in the lowest payment and maintain their financial flexibility in the face of possible financial setbacks. You’re also right that this couple seems disciplined enough to make the extra payments to get the loan retired before they do.
However, you missed a key factor: This well-disciplined couple had a mortgage with an interest rate of 5.875%. That indicates they’ve had this mortgage for a while. If they’ve paid down enough of the principal balance, they may be able to refinance to a 15-year loan with a significantly lower interest rate (as in slightly over 3%) without dramatically raising their payments. Many people, when faced with that option, would want to lock in the lower rate.