When is refinancing worth it?
Worked examples computed with the same calculations as our calculators.
Short answer
Forget the "1% rule". What decides it is how long you'll keep the home, what refinancing costs, and whether you restart the clock on a 30-year loan. In our example, going from 7.5% to 6% saves $460 a month, pays back its $8,000 cost in 20 months, and leaves you $29,624 ahead if you stay 7 years. With that stay, even a new rate as high as 7.01% would still come out ahead.
Below, the example is worked through with the same math as our refinance calculator.
The example
- You owe $380,000 at 7.5%, with 27 years left (payment $2,739 a month)
- You refinance the same balance into a 30-year loan at 6% (payment $2,278 a month), paying $8,000 in closing costs up front
- You keep the home 7 more years, and whatever you save is invested at 6% a year
The result is $29,624 ahead after 7 years. That counts the payment savings (invested), the closing costs, and how fast each loan is paid down, so it's what refinancing actually adds to your net worth when you sell.
Why the 1% rule is too strict
The old rule says to refinance only if you can cut your rate by at least a full point. But whether a smaller cut pays depends on your costs and how long you stay. Here's the same refinance at different new rates, for a 7-year stay:
| New rate | Saves / month | Pays back in | After 7 yrs |
|---|---|---|---|
| 7% | $211 | 46 months | $162 ahead |
| 6.75% | $274 | 35 months | $7,629 ahead |
| 6.5% | $337 | 28 months | $14,986 ahead |
| 6% | $460 | 20 months | $29,624 ahead |
| 5.5% | $581 | 16 months | $44,152 ahead |
Half a point lower roughly breaks even over 7 years; three quarters of a point comes out clearly ahead. With these costs, refinancing comes out ahead at any new rate up to 7.01%, or with closing costs up to $27,990 at the 6% rate.
How long you stay matters most
Closing costs are paid on day one; the savings arrive month by month. So the shorter your stay, the less time the savings have to catch up:
| Years | Refinancing leaves you |
|---|---|
| 1 year | $3,325 behind |
| 2 years | $1,558 ahead |
| 3 years | $6,703 ahead |
| 5 years | $17,660 ahead |
| 7 years | $29,624 ahead |
| 10 years | $49,710 ahead |
| 15 years | $88,386 ahead |
Here you'd need to stay at least 21 months for refinancing to come out ahead. If there's a real chance you'll move sooner, the refinance probably isn't worth it.
The trap: restarting the clock
A lower payment isn't the same as a better deal. Suppose your loan is at 7.5% with only 20 years left, and you can get 7%. Compare refinancing into a new 30-year loan with refinancing into a 20-year loan, both on the same $380,000 balance, staying 7 years:
| New loan | Saves / month | Pays back in | After 7 yrs | Total interest |
|---|---|---|---|---|
| 30-year loan | $533 | 17 months | $770 behind | +$175,433 |
| 20-year loan | $115 | 82 months | $1,224 ahead | −$27,628 |
The 30-year loan looks better on the two numbers most people check: it cuts the payment by $533 a month and "pays back" in 17 months. But it stretches your debt over 10 more years, so you pay down the loan more slowly and pay $175,433 more interest in total. After 7 years it leaves you $770 behind. The 20-year loan saves less each month but is the better deal. If you want the lower payment for flexibility, you can take the 30-year loan and pay it down faster yourself.
What this doesn't account for
- Rolling closing costs into the loan instead of paying them in cash. The calculator handles both; rolled-in costs are paid back with interest.
- Cash-out refinances, and refinancing into a new FHA or VA loan.
- Your actual rate depends on your credit, the home's value, and the lender, so compare real quotes. See how the numbers work for the other assumptions.
Try it with your own balance, rates, closing costs, and how long you'll stay. It starts from this example.
Open the refinance calculator