A common misconception among homeowners is whether they can skip payments when refinancing. After all, who wouldn’t want to go a couple months without a mortgage payment? The short answer is: Yes, you can go two months without a payment, however, no payments are actually skipped. Here is how “skipping” payments works:
Interest is paid in arrearsWhen you make your mortgage payment, you are actually paying the interest that accumulated during the previous month. For example, when you pay your mortgage in August, you are paying the interest that accumulated during July. This is the opposite of paying rent, which is paid in advance.
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Understand your payoff demandAs part of the refinance, a payoff demand is generated from your existing servicer (the company you pay your mortgage to). Your payoff demand is the total amount needed to pay your existing loan in full. It is common for borrowers to think their unpaid principal balance is the total amount they owe. Not true. The payoff demand is always higher than the unpaid principal balance because the payoff includes unpaid interest. Interest accrues on your mortgage everyday. So if you close your refinance on the 15th of the month, your payoff demand will have at least 15 days of unpaid interest.
Interest is prepaid at closingWhen you close your refinance, you prepay interest until the end of the month. Let’s assume you close your refinance on the 10th of the month: your closing disclosure will show a cost of 20 days of prepaid interest. Keep in mind, prepaid interest is calculated based on your new interest rate. So while it may appear that closing at the end of the month decreases closing costs, it just means that more unpaid interest is tacked onto your payoff demand.
Going one month without a payment Since you prepay interest at closing, and interest is paid in arrears, your first payment on the new loan is not due until one month after closing. Thus, you always go one month without a mortgage payment. For example, if you close your refinance on June 15th, your first payment is not due until August 1st. So while no interest is skipped, you effectively went the month of July without a mortgage payment.