Free Lunch - Not Going to Happen

Roger Schlesinger
Posted: Sep 20, 2006 12:00 AM

We are all in search of the free lunch in this world, and between you and me, there are better roads to follow. Aside from the thrill of victory in achieving said lunch, I have been assured it will be hard to swallow, if you get my drift. So let's drop it and take a look at another unfamiliar reality -- it costs to wait. This one is easier to understand if you can accept that you cannot tell the top or the bottom until after it gets there and turns around.

So what do I mean when I say it costs to wait? When you find something that fits your parameters and then do not act upon it you have two risks: (1) That when it is time to act it will still be available, and (2) That the reason you waited actually happens.

It is the latter one that I wish to discuss with you today. It is a simple concept that most people never consider and therefore are unable to analyze the situation correctly. (Correctly means assessing the return on the action taken).

Suppose you have a chance to lower your current 30 year mortgage to another 30 year loan, even if it is an ARM that is amortized over 30 years and fixed for a period of 5, 7 or 10 years. Should you be able to save $500 a month and refuse because you won't act until you can save $750 a month, there is a cost for that action or lack of action. Six months later the moment is right and you take the new loan and start saving $750 a month. Wrong! You cost yourself $3000 by waiting 6 months and not saving the $500 a month. You only have $250 a month to use in paying yourself back because of course you could have started saving $500 a month for the last six months and didn't. That will take you a year to make up, so you will be even in 1.5 years after you declined to move.

The longer you wait, the longer it takes to break even. In some cases you can't make it up. If you are forced to wait several years on a 15 year loan, you won't be able to save money and make up the loss of several years. To be able to save just another $250 a month on a 15-year loan can be almost impossible. If you had a $300,000 loan @ 5.875%, the payment would be $2,511 a month. If you needed to save the additional $250 a month the rate would have to drop to 4.25%, which is lower than the 40 year lows we hit several years ago. If you wait two years to get there and it works out, and then you try to pay it off in 13 years, the monthly payment would be about $2,506 and you wouldn't have made up for the loss you experience over 2 years, as the payment is the same and you will have lost $12,000.

Even if the loan size is twice as much, $600,000, you would still need the rate to go down about 3/4% to save the money and you couldn't make it up if it took two years, because the payment would be higher than the one you passed on two years earlier.

If you have a variable loan and try to refinance it into a fixed loan, and then decide to wait, you have all kinds of problems trying to make it work. First of all, the variable has to remain somewhat steady or at least not go up during the waiting period which is in addition to having the fixed rate go down enough to save you the additional money.

Yes, you could luck out and have them both go in the same direction, but luck shouldn't be the main ingredient of a financial strategy.

The bottom line is this: It can be very dangerous and most likely costly to wait past an initial opportunity to save money. I would rather refinance and have to do it a second time than miss the opportunity to make a financial strategy work. I think if you play around with this concept, you can see what works best for you and what it will take to improve the position. If you continually do this, you will eventually come up with a solution that works for just you. And, after all, you are the one that it should work for.

Roger Schlesinger's Mortgage Minute is heard on hundreds of radio stations and daily on the Hugh Hewitt radio show and Michael Medved shows. Roger interacts with his hosts and explores the complicated financial markets in order to enlighten his listeners and direct them along their own unique road to financial freedom. Roger is the President and founder of Manhattan West Mortgage.