Millions of homeowners could still benefit from refinancing their mortgages to get a lower interest rate. This is true even after a federal regulator startled lenders by dictating a new fee that amounts to a tax on refinancing. The fee is slated to take effect on December 1, 2020.

Many could save by refinancing

Mortgage rates began falling in the spring, as the potential economic impact of the COVID-19 pandemic dawned on financial markets, and declined into summer. The average rate on the 30-year fixed-rate mortgage has lingered around 3% APR in much of August, according to NerdWallet's daily survey, and the 15-year fixed-rate loan has averaged under 3%.

Low refinance rates ignited a refinancing boom, accounting for more than 60% of mortgage applications most weeks this summer. Still, plenty of potential refinancers remain. When the 30-year mortgage rate is 3%, almost 18 million homeowners could reduce their interest rate at least 0.75% by refinancing, according to mortgage analytics company Black Knight. The average potential refinance savings: almost $300 a month.

Fee could diminish refi savings for some

A new fee on refinance transactions could reduce borrowers' monthly savings, though. The "adverse market refinance fee" will be charged by Fannie Mae and Freddie Mac, the government-sponsored companies that bought and securitized 47% of mortgages at the beginning of 2020.

Freddie attributed the fee to "COVID-19 related economic and market uncertainty." Fannie used similar wording, without mentioning the disease.

The fee is a 0.5% charge on conventional refinances. It amounts to a half-of-a-percent sales tax on refinancing. In the first week of August, the average amount of a conventional refinance was about $324,000, according to the Mortgage Bankers Association. On a refinance for that amount, the fee would be $1,620.

Some refinancers won't have to pay. The fee applies only to conventional, conforming mortgages, which means that it doesn't apply to those who refinance government home loans. Loans for less than $125,000 are exempt, and so are Home Ready and Home Possible mortgages for borrowers with low to moderate incomes. Jumbo loans are exempt as well.

Lenders can pass along the fee to borrowers in several ways: including it in the refinance closing costs, adding it to the loan amount or increasing the interest rate. A 0.5% fee typically would translate into a rate increase of 0.125% or less.

New fee targets less-risky borrowers

Fannie and Freddie claimed that the fee was driven by market uncertainty, but it was levied on refinances, not purchase loans. Refinances generally carry less risk than purchases, so charging more for refis is like setting a higher auto insurance premium for a mom with a clean driving record than for her 16-year-old son.

So it's a mystery why an "adverse market" charge was added to lower-risk loans.

The Federal Housing Finance Agency, which closely oversees Fannie and Freddie, stated that the fee will cover projected financial losses associated with COVID-19, mostly stemming from loan forbearances.

Why refis pose less risk than purchase loans

To refinance, borrowers need to demonstrate that they’ve been paying on time. And most people refinance to get lower monthly payments. It's safe to assume that dependable borrowers decrease their risk of default when they reduce their payments. In contrast, purchase loans are a step into the unknown.

The fee will be charged on refi loans that Fannie and Freddie buy on or after Dec. 1. Typically, a few weeks pass between a loan's closing and its sale to Fannie or Freddie, so lenders might start imposing the fee on borrowers before Dec. 1, possibly as early as mid-October.

Fannie and Freddie originally announced the fee Aug. 12 and they set it to go into effect Sept. 1. Lenders complained about the short notice, and FHFA later delayed implementation by three months.

More reasons to refinance

A modest fee doesn't have to stop anyone from refinancing. There are other reasons to refinance besides monthly savings:

  • Repay the loan faster. By refinancing a 30-year mortgage to a 15-year loan, a borrower can save thousands of dollars over the life of the loan by paying interest for a shorter period.

  • Stop paying mortgage insurance. Refinancing is a way to get rid of mortgage insurance, whether it's an FHA loan insured by the Federal Housing Administration or private mortgage insurance on a conventional loan.

  • Extract equity. Some homeowners refinance for more than they owe and take the difference in cash in what's called a cash-out refinance. The money can go toward home improvements or other uses.