Financing a refinance is a surprisingly diverse process. You can pay for a mortgage refinance with cash, home equity (by including your refinancing costs in your new loan amount), or choose to pay nothing at all upfront by accepting a higher interest rate. Technically, a no-cost refinance isn't strictly no cost, of course, but it does mean you pay no cash out of pocket. Everything costs money and no one works for free.
When to go with no-cost refinancing
The no-cost refinance is the only refinancing option that has no break-even point. With no refinancing costs to recoup, you save money right out of the gate. That's a great benefit for those who are unsure of how long they will be keeping their properties or expect to hold them for just a few more years. No breakeven means instant savings, even if they may be smaller than other methods. A "no-cost" offer can be valuable if you have recently refinanced and paid closing costs, and is a key strategy when "serial refinancing" opportunities come along.
The no-cost refinance may be your only option if you don't have cash to bring to the closing table or enough home equity that can be used to cover your closing costs. Using up too much equity can have unexpected costs or consequences -- you can find a bump in your interest rate or need a mortgage insurance policy, for example.
No-cost refinance disadvantages
The chief disadvantage of a no-cost refinance is that over time it generally costs more than the other refinancing choices. You will never get the best mortgage rates if you opt to pay no closing costs, but if you have a short time frame or no cash or equity to use, it can allow you to refi and save lots of money. By running some numbers through HSH's Tri-RefiTM refinance calculator you can see that in the long run the no-cost refinance does cost more, even though it saves you from spending money in the short term.
Even if you have cash or home equity to pay for a refinance, but don't plan to keep your home for more than a few years, it can be hard to justify the costs of a refinance. If you do have a very short time horizon, and think you can save money with a refinance, you might also consider choosing not only a "no-cost" option, but a mortgage product more suited to your time frame like a hybrid ARM.
HSH.com's Tri-RefiTM refinance calculator can help you determine which refinancing strategy (Traditional, Low-cash-out, or No-cost refinance) will work best for you.
