As wage earners in the United States begin to receive their first paychecks in 2013, they'll likely notice their net pay has gone down. That's because a two-year payroll tax holiday expired on December 31, 2012, and was not renewed as part of the fiscal cliff deal, explains Barry Habib, chief market strategist of a nationwide mortgage lender. How can the average American offset the loss in take-home pay?
Refinancing a home mortgage is one strategy definitely worth thinking about, Habib says.
Every worker will see a two percent FICA tax increase now that the rate has reverted from 4.2 percent to 6.2 percent. The increase in the FICA tax, which is deducted from workers' paychecks, will cause take-home pay to decrease by $600 per year for workers with an annual income of $30,000. Workers with an annual income of $50,000 will bring home $1,000 less per year, while workers with an annual income of $100,000 will bring home $2,000 less per year.
"While two percent may sound like a modest increase, the toll it takes on discretionary spending is much greater," Habib adds. Consider a couple in which each partner earns $45,000 per year, earning $90,000 combined. They will likely pay $26,000 in taxes, and their living expenses may be in the range of $46,000 a year, he explains. "That leaves a couple earning $90,000 in combined income with $18,000 in discretionary spending. A two percent tax hike resulting in $1800 less per year will feel more like a 10 percent reduction, as they're losing 10 percent of their discretionary income," Habib says.
One practical solution to offset the decrease in income is to refinance a home mortgage, Habib notes. With rates at historical lows, many Americans could benefit by refinancing to a lower interest rate, he says. "Of course, not everyone is qualified to refinance, or is in a position where it makes sense. However, for many homeowners, refinancing their mortgage could more than offset the loss homeowners will feel from the increase in the FICA tax," Habib says.
Habib offers the following tips to consumers considering a refinance:
Know the Current Value of Your Home
A drop in your home's value may prevent you from being able to refinance if the equity in the property isn't enough to meet lenders' criteria. Speak to a couple of real estate agents on what similar homes in your neighborhood have been selling for to get an accurate valuation. Doing so allows you to make a well-informed decision about whether refinancing is feasible and makes sense, before you spend money on an appraisal or pay any of the other additional fees associated with refinancing.
An Assumable FHA Mortgage Will Make Your Property More Valuable and Easier to Sell
Homeowners may want to consider refinancing to an assumable Federal Housing Authority (FHA) mortgage, Habib says. With an assumable mortgage, the home buyer has the ability to take over the existing mortgage of the seller. An assumable mortgage typically raises the value of your home, and will certainly make it more sellable should you decide to sell, he notes.
Instead of Giving the Bank Money in Points, Pay Yourself
Think twice about paying points on a refinance, Habib advises. "It's tempting to see how low a rate you can get by paying more points, but you need to consider the cost of the money you're spending today," he says. Instead, Habib suggests homeowners think about using the money to reduce the principal on their mortgage. For example, on a $200,000 mortgage, rather than paying three points or $6000, the homeowner could pay their mortgage down to $194,000. "While your rate will be higher, your payment is based on a smaller principal amount, so you'll spend less on your mortgage in the long run," Habib says.
Refinance to a 15- or 20-Year Loan
Strongly consider refinancing to a 15- or 20-year mortgage. "With today's low interest rates, you may find that your mortgage payments are pretty darn close to what you're paying now," Habib says. "With a shorter loan term, so much more of your payment is going toward principal, that even after a couple of months, you're realizing a benefit. "Homeowners who are able to refinance to a mortgage with a shorter term build a much greater amount of equity in their homes as time goes on, he adds.
Source: Residential Finance Corp.
Published with permission from RISMedia.