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Question for the Money Doctors

Question submitted on Sep 30, 2011.

Question

My question is in regards to the intelligence of refinancing an underwater mortgage and whether I''m missing anything. My underwater mortgage is a fixed rate mortgage of 6% with 25 years remaining (and I am currently paying PMI). I recently locked in a 3.875% fixed rate (3.94% APR) for a loan amount that was 80% LTV of the Zillow ZEstimate of my home. Unfortunately, my home appraisal recently came back and it was lower than the ZEstimate (making my current mortgage balance 116% of the actual appraised value rather than the 104% of the Zillow ZEstimate I had hoped to get). I''m considering paying down the additional amount at closing, but under these circumstances, that would reduce my non-retirement investments by a little over 90% and would take me about 6.5 years to recoup those closing costs if I were to set aside the difference in mortgage payments (disregarding both the eroding effects of inflation and any positive investment gains). Thanks for your time.

Answer

There are numerous factors to consisder One is to compare the amount you're earning on your current investments to the differential in mortgage interest payments.  If you're earning less than about 2%, and don't have expectations of earning more in the near to mid term, you should pay off part of the mortgage.  You should make it a priority to bank any cash flow savings you have from the new arrangement to replenish the investments you drew.

One caveat -- you should not deplete your investments beyond the point of having at least several months of reserve in case of an emergency.

Another consideration is whether you intend to keep your home or sell it in the near future.  Depending on many circumstances, your lender might consider assenting to a short sale. 

There are some programs available to help homeowners who are in your situation. Some banks are offering assistance. and notably, the FHA has a new refinancing program that forgives 10% of a qualified borrower's original mortgage principal.

There are tax implications to mortgage forgiveness, so be sure to check with your CPA before doing this.


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