Refinance Break-Even

What break-even means

Refinance break-even is the point in time when the cumulative monthly savings from refinancing equals the upfront costs of refinancing. In other words, it's how long it takes to 'pay back' the refinance costs through lower monthly payments. If you move, sell, or refinance again before reaching break-even, you lose money on the transaction. Break-even is a critical metric because refinancing isn't free—you pay closing costs (typically 2-5% of loan amount, or $4,000-10,000 on a $200,000 loan). These costs must be recouped through monthly payment savings before the refinance becomes profitable. Break-even is usually expressed in months (e.g., '24-month break-even' means it takes 24 months of savings to cover the costs).

How to calculate break-even

The break-even formula is simple: Break-even months = Total Refinance Costs / Monthly Payment Savings. For example, if refinancing costs $5,000 and saves $200/month, break-even = $5,000 / $200 = 25 months. However, you must calculate this correctly: (1) Total costs include all closing costs (origination fees, appraisal, title insurance, etc.), not just the 'refinance fee.' (2) Monthly savings is the difference between old payment and new payment (principal + interest only, or include taxes/insurance if they change). (3) Don't forget to account for any prepayment penalties on your old loan. (4) Factor in any 'cash-out' if you're taking equity—this reduces your savings. The key is to be honest about your timeline: if you'll move in 2 years but break-even is 3 years, refinancing loses money.

The term reset trap (the hidden cost)

The term reset trap is the biggest mistake in refinancing: refinancing into a new 30-year term resets your amortization schedule, meaning you're back to paying mostly interest again. Even if your rate drops, you might pay more total interest because you're extending the payoff period. For example, if you've paid 10 years on a 30-year loan, you have 20 years left. Refinancing into a new 30-year term means you'll pay for 30 more years (40 total), dramatically increasing total interest. The trap is that lower monthly payments feel like a win, but you're actually paying more over the life of the loan. To avoid this, refinance to a term that matches your remaining years (or shorter). If you have 20 years left, refinance to a 20-year term (or 15-year if you can afford it). This preserves your progress and maximizes interest savings.

Break-even vs total interest comparison

Break-even tells you when you recoup costs, but it doesn't tell you the total cost difference. You should compare both: (1) Break-even: How long to recover upfront costs? (2) Total interest: How much interest will you pay over your expected loan term? For example, refinancing might have a 24-month break-even (good), but if you reset to 30 years, you'll pay $50,000 more in total interest over 30 years (bad). The best refinance has both: short break-even AND lower total interest. This usually means: (1) Significant rate reduction (1%+), (2) Matching or shortening the term (not extending), (3) Low closing costs (shop around), and (4) Long enough timeline to benefit (stay past break-even).

When refinancing makes sense

Refinancing typically makes sense if: (1) You'll stay past break-even (obviously). (2) Rate reduction is significant (0.5%+ is a good rule of thumb, but calculate break-even). (3) You can shorten the term (15 or 20 years instead of 30) while keeping payment manageable. (4) You need cash flow relief (temporary situation, and you understand the term reset cost). (5) You're removing PMI (refinancing when you have 20%+ equity can remove PMI and lower rate). (6) You're switching from ARM to fixed (locking in a rate before it adjusts). Refinancing usually doesn't make sense if: (1) You'll move before break-even. (2) Rate reduction is minimal (<0.25%). (3) Closing costs are high relative to savings. (4) You reset to 30 years unnecessarily (extending payoff). (5) You're near the end of your loan (most interest is already paid).

Common mistakes

Common mistakes with refinance break-even include: (1) Only looking at monthly payment—ignoring total interest and term reset. (2) Underestimating closing costs—they're often 2-5% of loan amount, not just a few hundred dollars. (3) Assuming you'll stay forever—be realistic about your timeline (most people move or refinance again within 7-10 years). (4) Not comparing total interest—break-even is important, but so is total cost over your expected horizon. (5) Ignoring prepayment penalties—some loans charge 1-2% if you pay off early. (6) Not shopping around—closing costs vary significantly by lender. (7) Refinancing too frequently—each refinance resets amortization and costs money. (8) Using break-even for term reset decisions—if you reset to 30 years, calculate total interest, not just break-even.

Worked Example

Edge Cases & Special Situations