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Why refinancing your mortgage or student loan might not actually save you money right now

Alexis Rhiannon

The Fed slashed interest rates to near-zero levels earlier this month, but mortgage and student loan refinance rates haven't dropped accordingly.

couple doing paperwork
couple doing paperwork
  • Experts say that's because lenders are worried that borrowers won't be able to pay back their loans since there's so much financial uncertainty at the moment.
  • Plus, after the Fed rate cut, many borrowers rushed to refinance and lenders were overwhelmed, so they raised rates to stem the tide of applications.
  • Read more personal finance coverage .

You probably recall news of the Fed slashing interest rates to near-zero levels in response to the chaos caused by the coronavirus pandemic. But anyone who's done any recent digging into mortgage rates or considered refinancing their student loans has also likely noticed that rates in those categories aren't as low as expected.

While rates on high-yield savings accounts have plummeted in response to the Fed's cut, why haven't the rates on mortgages and student loans followed suit?

The short answer is that even though the Fed cut rates, that doesn't assuage the main concern of many lenders that the pandemic will eat into incomes, leaving borrowers unable to repay their loans.

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In addition, with the economy grinding to a halt across the country and no clear end in sight, there's been an overwhelming surge of applications.

For the long answer, we turned to student loan expert Travis Hornsby of Student Loan Planner and Mike Ramirez , Certified Financial Planner and Certified College Planning Specialist at EP Wealth Advisors, to help explain the situation.

Hornsby explained that while lenders do take the rates set by the Federal Reserve into account, it isn't the only factor considered when setting interest rates.

"Lenders decide what interest rates they will charge consumers based on the current level of interest rates plus an extra yield that reflects current credit risk in the economy," he said.

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It's similar to the experience of purchasing a steak dinner at a restaurant you wouldn't expect to pay the same price for your meal that the restaurant's purchasers did for the disparate ingredients, right? In the restaurant industry, you're paying for line items like labor, experience, and the overhead of running a business, in addition to your meal. In the lending industry, you're paying for one massive line item: risk.

Given the current crisis, Ramirez strongly recommends against refinancing , whether you have federal or private student loans, but especially the former.

"For those with federal student loans, it makes little sense to refinance due to student loan relief announced last week by the Trump administration and US Department of Education. For 60 days, Federal student loans will automatically have their interest rates dropped to 0%, and borrowers can choose to suspend their payments for at least two months without accruing interest," he said. Essentially, you won't find interest rates lower than zero, so now isn't the moment to refinance your federal loans.

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" Private loan interest rates vary by lender, and each has their own criteria for which rates a borrower may qualify for," Ramirez explained. "I imagine that many private lenders are looking at the unprecedented 3.3 million Americans that filed unemployment claims last week and are seeing a borrower base that is going to struggle to take care of their basic living needs, let alone their monthly loan payments, until this pandemic is over."

In short, unless you have a sky-high interest rate, it might be smart to hang tight on refinancing your mortgage until we get some clarity, because lenders will likely be doing the same.

To understand the period of uncertainty we're currently in, Hornsby returned to the steakhouse metaphor: "If the price of raw steak goes way up, then the price of steak on the menu will get passed along to you," he said. In our current financial situation, as loans get riskier, consumers and lenders alike are absorbing the cost of that risk.

"Lenders typically get access to capital via deposits or corporate bond markets , which have been frozen because investors are scared to lend to companies, too," Hornsby continued. "And the banks that do have money to lend are being really careful because they know a lot of people don't have access to paychecks right now, so traditional underwriting where you look at someone's most recent tax return might not be accurate at all."

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Basically, without an accurate snapshot of a consumer's financial situation, lenders are flying blind, and shoring up their own protections accordingly. In Hornsby's words: "To get compensated for the higher cost of capital and higher likelihood that you won't pay them back, a lender has to charge way more than they normally would, or they'd go out of business."

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Alexis Rhiannon

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