As explained in our previous article, refinancing is a great way to adjust the terms of your home loan to better suit your current financial needs. But if you do it for the wrong reasons, home loan refinancing could end up causing more harm than good to your long-term wealth strategy. Here are some common ones that you might want to read about before you consider refinancing.
1) Lowering Your Monthly Loan Repayment to Elevate Your Lifestyle
One of the greatest propositions of home loan refinancing is the ability to extend your loan period and lower your monthly repayment commitment. The downside is, you'll end up increasing the total amount of interest you pay over the long run.
If your have a perfectly good reason for doing so (such as needing extra cash to start a business or to further your studies), then lowering your monthly loan repayment via refinancing is a good idea. But if that extra money goes into things like shopping, fine-dining and weekend holidays, you may want to rethink your decision because sooner or later, you WILL need to pay the financial consequences.
If you're on a 30-year home loan for a loan amount of RM400,000 with an interest rate of 4.8% p.a., you're probably paying approximately RM2,098 every month.
But say after paying for 10 years, you decide to refinance the balance amount at the same rate but extend it for another full 30 years; your monthly repayment period would drastically reduce to about RM1,696.
Your Benefit: You pay about RM400 less every month for the next 30 years
Your Financial Consequence: You pay RM107,137 more interest in total!
* NOTE: The above calculations are carried out via a home loan calculator as adopted by a major Malaysian bank, with the intention of illustrating the implications of refinancing. They may not accurately represent all home loan products currently in the market.
2) Freeing Up Large Amount of Cash You Don't Need
Another common reason that drives home owners to go into refinancing is to gain access to large amount of money by "over-borrowing". Say you have an outstanding loan amount of RM300,000 for a property which has an existing valuation of RM400,000; you could potentially refinance for 90% of RM400,000 (i.e. RM360,000), use RM300,000 to pay off your old loan, and retain the remaining RM60,000 as cash.
Nowadays, more and more investors are looking into this method as a means to free up immediate cash for investment purposes. However, if your intention for refinancing is to gain access to this money but you don't really have a clear strategy on what to do with it, DON'T. (And for the record: putting the money into a fixed deposit doesn't count as a good reason because your fixed deposit interest is almost certainly lower than the interest of your home loan).
3) Refinancing Because Everyone Else Is Doing It
Some people dive into refinancing without fully understanding the impacts and consequences, simply because someone in the family or a close friend seems to have benefited greatly from a recent refinancing deal. Amongst all the possible wrong reasons to refinance, this is the one that most folks should take heed of (because it is also the most likely to happen).
Before you refinance, understand that every home loan package is different in loan amount, loan period, the interest rate, the terms and conditions and even the nature of the loan itself (eg. fixed rate vs variable rate). For refinancing to work to your advantage, you'll have to transfer from a home loan with inferior terms to one with superior terms... under circumstances that is favourable to your wealth strategy and financial situation. This in turn involves hard works in evaluating your existing situation and home loan, sniffing out the best deals and doing the necessary calculations that show that refinancing is indeed beneficial for you. To put it simply, you cannot go into refinancing expecting similar results as the next person because your situations are most likely different from one another.
Ultimately, understand that refinancing your home loan should do one thing: and that is to bring about some form of benefit to YOU. If you're somehow inspired by a close one to undertake refinancing, make sure you do the necessary homework based on your own situation, and not just dive right in expecting it to work like magic (because it isn't)!