What costs are involved in refinancing a loan?

2 min read

ERC on the old loanExit cost

Set-up fees on newArrangement, etc.

Saving must beat bothBreak-even test

Sometimes waitERC may taper

The costs of switching

Refinancing is not free. Leaving your current loan may trigger an early repayment charge, and the settlement figure will include interest to the switch date. Setting up the new loan brings its own costs — an arrangement fee, possibly documentation or legal fees on a secured deal. These exit and entry costs are the price of switching, and they have to be earned back by the saving. See hidden costs.

The break-even

Refinancing only pays if the interest you save on the new loan over the remaining term exceeds the ERC to leave plus the set-up costs to join. A lower headline rate is not enough on its own — a big early repayment charge can wipe out a real rate saving. Get three figures: the old loan's settlement (including ERC), the new loan's total repayable, and its set-up fees, then compare. See the break-even in detail.

Timing and doing it well

Because many early repayment charges taper toward the end of a term, waiting until the ERC has shrunk can turn a marginal switch into a clear win — unless rates are rising, in which case moving sooner to lock in may be worth the charge. Ask the new lender what they'll do to make the switch attractive; some absorb set-up costs to win the business. See refinancing onto better terms.

Run the full break-even on the true cost calculator, and when it clears, apply for the new facility.

Frequently asked questions

Is refinancing worth it if there's an early repayment charge?

Only if the interest saved on the new loan over the remaining term beats the early repayment charge plus the new loan's set-up costs. A lower rate alone doesn't guarantee a saving — a large ERC can cancel it. Run the break-even with the old loan's full settlement figure, the new loan's total repayable, and its fees. If the new all-in cost is clearly lower, refinancing pays; if not, stay put.

Can I avoid the set-up costs when refinancing?

Sometimes — a lender keen to win your business may waive or reduce its arrangement fee, and occasionally absorb some set-up costs, so it is always worth asking what they'll do to make the switch worthwhile. They rarely pay the old lender's early repayment charge, though. Factor whatever set-up costs remain into the break-even, and use competing offers as leverage to trim them.