Mortgage Interest Rates for Buying a Home
For many people, buying a home means obtaining a mortgage. And with such a large amount of money on the line, home buyers need to understand the details of the mortgage process. One detail often overlooked in the process are home mortgage interest rates. What are mortgage interest rates and how do they affect a mortgage or the buying process?
What Determines Mortgage Interest Rates
There are a variety of factors that change mortgage interest rates. Some of these factors are related closely to the mortgage industry, while others are only tangentially tied to it. As a general rule, certain types of loans tend to have higher or lower interest rates. For example, a 15-year fixed-rate mortgage usually carries a lower average interest rate than a 30-year fixed-rate mortgage. This is because the shorter term mortgage represents less risk than a longer term loan. Rates may also be determined by outside financial forces, like the changing of the funds rates from the Federal Reserve. The Federal Reserve may change short term interest rates (which effect long-term mortgage rates) as a way to control inflation, unemployment or the economy in general.
Factors Affecting a Buyer's Interest Rates
Although these broader aspects may carry the greatest weight in the interest rate that a buyer might receive, there are a number of factors specific to the buyer that are important as well. The mortgage interest rate a home borrower will pay also has much to do with their creditworthiness. This is determined by the lender through a thorough analysis of the buyer's:
- credit history
- credit score
- employment history
Borrowers who present an ideal application for credit are more likely to get better interest rate offers, including the lowest interest rates.
Nominal vs. Effective Interest Rates
When people start to seriously look at their mortgage applications and offers for credit, they may realize that the quoted interest rate and the annual percentage rate (APR) are not the same. In fact, the interest rate that a buyer is offered may be offset somewhat by additional costs and fees that the lender finds necessary for closing. The interest rate that the buyer would be charged for the mortgage is typically called the “nominal interest rate.”
The annual interest rate or APR is the effective rate once all of the closing costs are added into the loan. For example, two identical loans with the same principal amount and the same nominal interest rate might have different APR's. This is because one loan may have various closing costs added into the principal while the other loan does not.
How Interest Rates Affect Buying Power
After buyers have secured pre-approval for a mortgage loan, the lender or mortgage broker may walk them through various loan and payment scenarios. Knowing how much a loan costs per month is not just a matter of helping homeowners manage their budgets after buying a home. Loans have specific guidelines for the amount of a monthly payment borrowers can have based on their income. Lenders will sometimes make exceptions in special circumstances, like a high cost of living area. However, in most cases, buyers will be limited to a payment of less than 28 or 31 percent of their gross income.
The interest rate of the loan could dramatically increase or decrease the monthly payment, changing the total a buyer could qualify for. The higher the interest rate, the higher the month mortgage payment, due to more interest needing to be paid on the loan. A lower interest rate means a lower monthly mortgage payment. This is why buyers typically want to get the lowest rate possible.
Ways Buyers Could Lower Their Mortgage Interest Rates
If lowering interest increases buying power, buyers may wish to do what they can to keep that rate down in the first place. Experts believe that the best way to get the most ideal rate is to shop around for loans. Many borrowers do not shop around, which may cause them to pay more interest than they need to. Buyers can also pay down discount points at closing to lower the nominal interest rate. Otherwise, applicants could benefit from working to make their application as flawless as possible. A low-risk buyer is a boon for a lender, who will often offer better rates as a result.
Using Interest Rates to Plan for Home Buying
As they prepare to buy a home, people may read about rising or dropping interest rates. Since interest rates tend to change relatively slowly, buyers should be wary of rushing their plans in an effort to capture a better deal. However, people who are generally ready to buy a home may decide to use rate changes as an opportunity to begin the home buying process. Taking advantage of lower rates might help buyers have lower monthly house payments and could allow them to increase the budget for the price of the home.
Applying for a mortgage is a big decision that requires a lot of information. Most Memphis real estate agents can recommend one or several mortgage lenders that can assist home buyers get the most for their money and the lowest interest rates.