How to Calculate Mortgage Break Even Point

The mortgage break even point is the time when the total savings from refinancing a mortgage equal the costs of refinancing. Understanding this calculation helps homeowners determine whether refinancing makes financial sense.

What is the Mortgage Break Even Point?

The mortgage break even point is the period after refinancing when the cumulative savings from lower interest rates or other refinancing benefits equal the total costs of refinancing. This includes closing costs, points, and any other fees associated with the refinancing process.

For example, if you refinance a $200,000 mortgage with closing costs of $5,000 and save $50 per month on your mortgage payments, the break even point would be the number of months it takes for your savings to cover the closing costs.

Refinancing is typically recommended when the break even point is less than 5-7 years, as this provides a reasonable payback period for the refinancing costs.

How to Calculate Mortgage Break Even Point

To calculate the mortgage break even point, follow these steps:

Determine the total refinancing costs, including closing costs, points, and other fees.
Calculate the monthly savings from the new mortgage terms.
Divide the total refinancing costs by the monthly savings to find the break even point in months.
Convert the result to years by dividing by 12.

Break Even Point (Years) = Total Refinancing Costs / Monthly Savings

The formula shows that the break even point is determined by how quickly the monthly savings from refinancing cover the upfront costs.

Worked Example

Let's calculate the break even point for a homeowner refinancing a $200,000 mortgage with the following details:

Original interest rate: 5%
New interest rate: 4%
Loan term: 30 years
Closing costs: $5,000

First, calculate the monthly savings:

Original Monthly Payment = PMT(5%, 30, 200000) = $1,264.14 New Monthly Payment = PMT(4%, 30, 200000) = $1,103.14 Monthly Savings = $1,264.14 - $1,103.14 = $161

Next, calculate the break even point:

Break Even Point (Months) = $5,000 / $161 ≈ 31.06 months Break Even Point (Years) = 31.06 / 12 ≈ 2.59 years

This means it will take approximately 2.59 years for the homeowner to recoup the $5,000 in refinancing costs through the monthly savings.

Key Factors to Consider

Several factors can affect the mortgage break even point:

Refinancing costs: Higher closing costs or points will increase the break even point.
Interest rate savings: Larger differences between the old and new interest rates will reduce the break even point.
Loan term: Shorter loan terms may result in higher monthly payments but potentially lower break even points.
Property value appreciation: If the home's value increases, the break even point may be shorter.

It's important to consider these factors when deciding whether to refinance, as they can significantly impact the financial outcome.

Frequently Asked Questions

What is a good mortgage break even point?

A good mortgage break even point is typically less than 5-7 years. This means you should recoup the refinancing costs within this timeframe to make refinancing financially beneficial.

How do I calculate the break even point for refinancing?

To calculate the break even point, divide the total refinancing costs by your monthly savings from the new mortgage terms. The result is the number of months (or years) it will take to recoup the costs.

What factors can affect the mortgage break even point?

Factors that can affect the break even point include refinancing costs, interest rate savings, loan term, and property value appreciation. Higher costs or lower savings will increase the break even point.

Should I refinance if the break even point is longer than 5 years?

If the break even point is longer than 5 years, refinancing may not be financially beneficial. In such cases, it's important to carefully consider other factors like potential interest rate changes or property value increases before deciding.

Can I use this calculator for different types of refinancing?

Yes, this calculator can be used for different types of refinancing, including rate-and-term refinancing, cash-out refinancing, and home equity refinancing. Adjust the inputs accordingly for each type.